How Big Beer Companies Exert Their Dominance

The beer industry consolidation that's taken place over the last decade isn't happening by accident. AB-InBev (NYSE: BUD) and Molson Coors (NYSE: TAP) essentially control the beer market in the U.S. and are major powers globally, which has left smaller brewers searching for options. They can try to fight the big beer powers (which may be a losing battle), or join forces, somethingCraft Brew Alliance (NASDAQ: BREW) did in a production and distribution deal with AB-InBev.

This complicated structure of beer production and distribution exists to leverage state laws and the way role distributors play in the industry.Here's how the industry's power plays out in the years ahead.

Image source: Getty Images.

The name of the game in beer

Beer doesn't simply go from a major brewery to liquor stores and bars around the world. They go through distribution channels that are the real power players in the beer industry. In some states, distributors hold a position protected by law, much like auto dealerships. In others, there's a de facto distribution monopoly that works through pressuring customers to keep them in the loop.

Distributors need beer to survive, but bars and liquor stores need distributors even more. Cutting off supply of a popular product like Miller Lite or Budweiser could sink a bar relatively quickly. So, distributors use those taps as threats, whether implicitly or explicitly, to keep competitive products out. Want to put a line of O'Dell Myrcenary in? The distributor might pull all of the beers they sell, which could be a majority of a bar's business. A distributor may also install equipment for "free" to give an incentive to use more of their product. These pressures aren't technically legal in most locations, but who's going to go to the work of proving coercive tactics at thousands of bars in any given state?

This isn't a hypothetical setup, either. AB-InBev faced Department of Justice and antitrust scrutiny over the pressure it put on distributors to sell its brands over smaller competitors. But that didn't include the hundreds of distributors across the country that pressure bars and restaurants to keep craft competitors out.

Given the current setup and consolidation in the industry, big beer makers will be able to squeeze small competitors out of bars, restaurants, and liquor stores while increasing prices and expanding margins. If you want to know why beer companies were eager to consolidate, that's the reason right there.

Craft beer isn't going away, but big beer is blocking growth

The power of distribution in the beer business won't kill craft beer by any means. In 2015, the last full year data is available, the Brewers Association said overall beer volume was down 0.2% but craft beer was up 12.8%. This is consistent with flattish volumes reported by major brewers as well.

The difference is that large brewers are trying to get distribution to help limit the market size craft brewers can address. And they're raising prices along the way, which has resulted in rising revenue and profits despite little to no growth in volume.

Big beer's power will be long-lasting

There's not much growth left for big beer companies from a volume perspective. But they'll be able to grow revenue and margins as they use their distribution power to limit the growth of competitors. And in many states, the power of the distributor is actually built into law because brewers can't sell to the public or other drinking outlets. That's a strong position to be in, and will keep the cash coming in for decades to come.

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Travis Hoium owns shares of Molson Coors Brewing. The Motley Fool owns shares of and recommends Anheuser-Busch InBev NV. The Motley Fool has a disclosure policy.