Small Wineries Find Ally On Interstate Shipping But States and Wholesalers Oppose Direct Selling
By Charles Lane Washington Post Staff Writer Sunday, December 5, 2004; Page A08
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Supporters of interstate shipping of wine from producers to consumers see their cause as a contest between David and Goliath: mom-and-pop wineries and connoisseurs of the grape vs. New York, Michigan and powerful liquor wholesalers.
But when the Supreme Court hears arguments in the case on Tuesday, the little guys will have a heavyweight in their corner, too: billionaire Jess Jackson, 74, the founder of the ninth-largest wine producer in the United States, Kendall-Jackson Wineries.
Through a nonprofit organization, the Coalition for Free Trade, Jackson and other California winemakers who espouse economic freedom -- and hope to move more product -- have raised and spent hundreds of thousands of dollars supporting the court challenges. The coalition hired big-name legal advisers including former Whitewater independent counsel Kenneth W. Starr and former Stanford law school dean Kathleen M. Sullivan. Sullivan will argue part of the case before the justices.
"Jess Jackson carried a lot of weight out there. He sits atop Kendall-Jackson, which along with Gallo is one of the big boys," said James A. Tanford, a law professor at Indiana University who filed the first lawsuit in 1998 and works closely with the Coalition for Free Trade. "When he speaks, people in the California wine business listen."
As the role of Jackson and his allies shows, the wine case is not only a clash of constitutional principles, but also an effort by businesses to win in court what they were denied in state legislatures.
This is a variation on a recent theme at the Supreme Court. In 2002, the health insurance industry asked the court to strike down state laws giving patients an independent review of benefits denials. The court said no. But in 2004, the insurers persuaded the court to strike down state laws that created a right to sue managed-care companies for medical malpractice.
Jackson keeps a low profile and holds no formal position in the Coalition for Free Trade; he declined a request for an interview. But people familiar with the case describe him as a key player behind the legal effort that has led to Tuesday's argument.
Retail wine sales total about $20 billion per year, according to MKF Group, an economic consulting firm in St. Helena, Calif. The top three producers account for 60 percent of wine sold, but in recent years small, family-operated wineries have proliferated. The number of wineries in the United States has gone from 500 to 800 in 1975 to well over 2,000 now, according to the Federal Trade Commission. Wineries have opened in all 50 states.
Yet the wine trade is governed by a regulatory system from the 1930s.
The 21st Amendment, which repealed Prohibition in 1933, gave states the power to tax and control the flow of alcoholic beverages within and across their borders. Most set up a "three-tier" system: a state-licensed wholesaler brought in beer, wine and spirits; state-licensed retailers sold them to customers; and customers drank.
Over time, the system has given rise to a consolidated wholesale business dominated by a few companies that control producers' access to liquor store shelves.
But in the late 1990s, some small winemakers began selling over the Internet. For high-end wineries too small to crack the wholesalers' distribution networks, such sales were a way to maintain customers who had come in contact with them, often on vineyard tours.
Wholesalers saw these sales, still a tiny percentage of the total market, as a threat to the three-tier system. Fearing what would happen if bigger producers got into the act, the wholesalers lobbied state legislatures for a crackdown.
All told, 24 states -- including New York and Florida, the second- and third-largest wine-consuming states, after California -- ban direct shipping from out of state. In five states, including Maryland and Florida, it is a felony.
But some of the laws, including the Michigan and New York laws at issue Tuesday, permit in-state wineries to sell directly to consumers. (New York lets out-of-state wineries ship directly if they set up an office in New York.)
The states and the wholesalers argue that the laws are needed to keep alcohol away from minors and help collect tax revenue. Michigan, for example, collected $168.3 million from liquor taxes, license fees, fines and penalties in 2003.
And this is constitutional, they argue, because the 21st Amendment was intended as an exception to the usual rule of free interstate trade.
In their brief, Michigan wholesalers warn the court bluntly that "this case would challenge the whole three-tier system."
"This isn't about access to wine; this is about state control of the regulatory system," said M. Craig Wolf, general counsel of the Wine and Spirits Wholesalers of America.
Wolf noted that, in a separate case, Costco is suing in a Washington state federal court for the right to import wine directly from California to its stores. Together, Costco, Sam's Club and Trader Joe's accounted for more than $1 billion in wine sales last year, according to ACNielsen. Kendall-Jackson wines are among the most popular on Costco's shelves, according to industry sources.
But the wineries and wine drinkers point to a 2003 Federal Trade Commission report that said that consumers reap significant benefits from direct shipment in the states that permit it and that those states report few problems with tax collection or underage purchases.
Opponents of the bans on direct interstate shipments say the fact that Michigan and New York let their in-state producers ship to consumers proves their laws do nothing more than protect local businesses from competition.
That makes them unconstitutional, opponents say, because when the framers of the Constitution gave Congress the power to regulate interstate commerce, they implicitly denied it to the states.
"This is the latest round in a battle that has been raging longer than the republic has been around," said Clint Bolick, a lawyer who will represent Middleburg, Va., winemaker Juanita Swedenburg on Tuesday. "The battle between economic protectionism and free trade."
Bolick is counsel for strategic litigation at the Institute for Justice, a libertarian legal group, which received no funds from the Coalition for Free Trade.
Tanford was the first to test the opponents' constitutional argument in court, filing suit in Indiana in 1998 on behalf of Russell Bridenbaugh, a wine critic in Indiana who found that he could no longer receive free review bottles of wine from out-of-state wineries.
Though the Indianan lost his case at the U.S. Court of Appeals for the 7th Circuit, his effort attracted Jackson's attention and, eventually, his support. Soon the Coalition for Free Trade was offering technical advice to plaintiffs in Florida, North Carolina and Michigan and filing friend-of-the-court briefs.
"As we saw the effort underway, we jumped in as an industry to become a central, important part of it," said Tracy K. Genesen, legal director of the coalition. The group is not out to overthrow the three-tier system, she said, but Jackson "has a vision where you have a complement, or an augmentation, to the three-tier system that will benefit all size wineries."
Starr and his colleagues at the law firm of Kirkland & Ellis, followed by Sullivan, helped the plaintiffs match the wholesalers' high-priced legal talent, which includes such prominent names as former federal judge Robert H. Bork and former White House counsel C. Boyden Gray.
According to its 2002 federal tax statement, the most recent available, the Coalition for Free Trade spent more than $1.1 million between 1998 and 2001. It is seeking an additional $700,000 in donations, according to W. Reed Foster, its president.
In the wine industry, Jackson's decision to back litigation was seen as risky and, by some, as courageous. Many other winemakers feared retaliation from wholesalers.
The biggest name in the wine business publicly supported the Indiana state law at the 7th Circuit. E.&J. Gallo Winery, with an estimated $3 billion per year in retail sales, according to MKF Group, filed a friend-of-the-court brief defending the statute -- a move that was widely seen as a reflection of Gallo's good relationships with the wholesalers.
Gallo has filed no other briefs. Asked the company's position on the Supreme Court case -- Granholm v. Heald, MI Beer & Wine Wholesalers v. Heald and Swedenburg v. Kelly, 03-1116, 03-1120 and 03-1274 -- Gallo spokesman John Segale said: "We believe this is an issue that needs to be resolved by the court, and we will live with whatever decision they reach."
A strong-willed lawyer with a libertarian streak, Jackson started Kendall-Jackson 22 years ago, building an empire out of sweet Chardonnay. Although Forbes estimated the company's sales at $450 million in 2003, Jackson empathizes with smaller winemakers, associates said.
Also, Jackson had already fought and beaten a powerful Midwest wholesaler, Judge & Dolph, in an unrelated federal case. Judge & Dolph is controlled by William W. Wirtz, who also owns the Chicago Blackhawks hockey team and Chicago's United Center.
Jackson "does what's good for the company, and direct shipping is good for the company. He's not afraid of anybody," coalition president Foster said.