希少価値 Thoughts on Rarity & Price
What do I think makes a bottle or expression rare? Why do prices escalate so quickly with higher age statements? Let’s dig into some complicated topics here!
Baseline - Angel’s Share & Aging
If we look at a higher age statement whisky, armed with an initial understanding of Angel’s Share, it’s pretty logical to assume that most of the price increase comes from there simply being a lower volume of alcohol available for sale? Take any particular 3-year Scotch whisky, check the price, and compare it to that of a 30 year whisky from the same brand (if available). Angel’s Share on the 30, assuming 3% per year compounded, makes for about 45% of the volume in each 30 year old barrel as compared to the 3-year old. Hence, if a 3 YO sells for $20, you should be able to pick up the 30 YO for $45!
Good luck with that! Something else is at play.
保管 Storage costs?
We all know those investment pitches to invest in a barrel, right? Or is that just my social media ad feed? Anyway, the pitch goes as follows: Hold a standard barrel with 169 litres, and after 5-10 years with some angel’s share you’ll fill around 200 bottles at cask strength and 700 ml per. Storage for a barrel at that size tends to be quoted in the US$100-200 range per year, depending on distillery, the deal on offer, and other variables. So we simply add storage into our costs, and account for that as well when we tally up what the final, post-angel’s share bottle has to sell for!
Except a decent barrel goes for US$8,000-12,000 before the rent. You would have to store the barrel for at least 20 years before it realistically makes enough of an impact to the cost to say that price is mostly driven my this factor. Let’s take a cheap barrel and high storage fee - our bottle has over 20 years gone from US$8,000 to US$12,000 of input costs. Adjusting for angel’s share, the contents of the barrel - at 3% annual share discount - is a cup or so below 90 litres, but your break-even here goes from $31.55 per bottle to $88.88 per bottle. Yes, we almost tripled the break-even over 20 years (and ignored the fact that it was only whisky for 17 of those) as opposed to “doubling and a bit” from angel’s share alone, but check again if angel’s share and rent makes up for the store price difference. Still not really close - we are looking at 10-30x the costs between lower-range stuff and the high end, even on the same brands. Whats going on?
“Marketing!” I hear! Probably not in the way you think.
If you have a background in Finance & Accounting, you can skip until the next section after the following because I am about to explain what happens with a high IRR - and what an IRR is.
内部収益率法 Internal Rate of Return
Put yourself in the shoes of the whisky company for a second. You have a batch going, sat in storage for 20 years (basically, imagine the case above over multiple barrels, for the sake of the argument we say 100 barrels filled to the brim 20 years ago). Let’s say that if you bottle these barrels now, you can basically buy in materials, store up money to pay in salaries, cover rent for machinery and property, etc. for another 250 barrels - in reality it’s more, but we have to start somewhere for this calculation to be possible - and see that grow in value over time, while you pocket a bit of a difference. Sounds sweet, right? In putting together a 10-year strategy you have the choice of:
A) storing your current barrels for another 10 years to make 42 “full barrel equivalents” (FBEs from here) of 30 year whisky, or
B) sell 55 FBEs of 20 year whisky now and then sell 185 FBEs of 10 year whisky in 10 years.
In B. you are selling a lot of barrels! Equivalent to filling 240 barrels to be exact. A puny 42 barrels needs to make up for all that extra money 240 barrels could get you! (Adjusted for storage, alternative A. is $300,000 cheaper in that respect though, assuming you could rent out your storage space to someone else or that you pay storage per barrel wherever you keep them.) Your average bottle age in A. is 30 years, while it goes to 12.3 years in example B. Getting money in now means you can do things with that money, like growing your organization, buying in more material, better material etc., and the additional aging of the whisky always needs to compensate for that.
After all of these adjustments, the distillery needs to get in US$1,400,000 from alternative A. ($131.49 / bottle), and US$1,700,000 from alternative B. (US$27.94 / bottle) to break even, 4.7x average bottle cost from that alone.
And this is before we even imagine any cost or cash flow pressures to keep the operations going, like paying salaries and debts / loan interest, repair costs for machinery and storage facilities, etc. How great if we could pay all this stuff in future whisky…
Back in the real world, accountants and other bean counters often ascribe something called an “Internal Rate of Return” (IRR) to the value of a project, and normally after all the costs are paid you would expect to earn 10-20% a year for tying up your capital over taking other opportunities with it. IRR is effectively the best alternative of what the company could make if they took the next-in-line opportunity. To make the numbers slightly less brutal, let’s go for the mid-range of that quoted - 15% - from here on out.
Side note: This is why you can produce gin, vodka, or other spirits that don’t need aging at a much lower cost. The cash coming in means that the distillery can “spin” the money around and use it to make more booze, which can make them more money, etc. If you can run 10 batches per year, you have 100 bottles over ten years to distribute the cost of machinery, salaries, storage, and other overhead on, rather than just 1 for a spirit aged 10 years. Lesson: if a new distillery is starting up and sounds promising, buy their other spirits to keep the doors open!
複利 What IRR means in the real world
Keeping something in storage for 5 extra years means that it needs to more than double in value to keep up with a 15% IRR when annually compounded. And that’s on an actual barrel basis, before Angel’s Share! Compare a barrel holding 3 year whisky to one of 28 year whisky on this basis, and you have a 25 year age difference, meaning the older barrel needs to double in value 5 times and change. That barrel now needs to be 2 x 2 x 2 x 2 x 2 = 32 times more expensive than the 3 year equivalent! That escalated quickly! Given that there is about 50% of the whisky in that 28 year barrel, we are closer to talking about a 65 times price per bottle of 28 year vs 3 year…
ぶくぶく Adding Foam to Skim Off
This is primarily a side note, but if we are talking costs, we might as well cover it here. I hope you aren’t letting the word count correspond to your pour for the session!
Distribution and bottling is a thing. A bottle will cost the buyer something, and of course a nice box for the bottle adds something to this. Then the bottles need to be sent to the store. And you are unlikely to pick up a statement whisky from a random 7-11, so that store needs to pay some rent, staff, etc. After a certain point, your bottling, the box, transport, store rent, etc. probably tapers out on the cost and approaches a per-bottle level, but certain other things (profit margin, staffing costs and training) adjust on a percentage level and needs to be there for covering risks. If you break an age statement Macallan you will need to sell a lot of Jack Daniels to cover for that…
Let’s presume that the variable cost assignment on last-mile distribution is equivalent to the variable cost of producing a whisky just to make the calculation easier, and keep the 1-to-65 ratio from before. We add 50% to both the cost of our cheaper barrel blends and the cost of our more expensive expressions. After saying that the distiller needs US$20 per bottle coming out of the barrel at the low end, and US$1,300 at the higher end. Hence US$30 vs. US$1,950 at retail worth of variable costs. (Whoa! Again, the 65 factor is an overestimate in most cases.)
Now we add the “fixed costs” of bottles, boxes, distribution and store rent space. Le’s say we need US$10 for all of these. So we have a bottle of US$40 cheaper whisky, and a bottle of US$1,960 expensive whisky. Our expense factor now went from 1-to-65 to 1-to-49! If the fixed costs are $15 per bottle, you now get the ratio down to 1-to-43.66. Lesson from this - buying expensive whisky means that a lower percent of the cost you are paying goes to things that aren’t whisky that you won’t really enjoy, such as bottling and transport. I do consider staff training and storefront costs to add value, as this can increase my experience as a drinker or make me more likely to pick out a good bottle as an investor, so it has a tangible benefit to me. But transporting and bottling a Hakusho NAS from the distillery to me costs the same as it does for a Hakushu 25.
換金 Reality Cheque
In reality, this analysis does not fully apply even though it gives a decent understanding. Basically it helped making me overshoot on the high side to compensate for my prior understanding being a major undershoot, hopefully allowing me to get closer to actual price in the long run. The issues we run into are that there is a limited number of barrels available for storage, limited storage space, limited distillate that can be produced, etc. cutting those numbers down quite a bit. A distillery does not realistically have a choice between producing 1,000 barrels of 28-year old whisky or 32,000 barrels of 3-year old whisky from a physical perspective. On top of that, a highly regarded age statement whisky is obviously a great marketing tool for the distillery, meaning that this can compensate quite a bit for the IRR one would expect from a pure MSRP basis and allow them to increase their overall price level across their expressions.
This obviously opens up a couple of different strategies for distilleries - do you hope to get a good whisky with little aging, pumping out volume (see Kavalan, for example)? Is quality mizunara cask aging worth it given the barrel needs to be stored for 18+ years and the angel’s share goes from 2-3% to +5% due to the much more porous wood? Where do you store your barrels - is a drier climate worth it with the higher ABV & accelerated aging process making up for the higher angel’s share from a pricing power perspective? That’s an interesting consideration for a distiller, but one you need to understand as an investor to have any view on how likely it is that an expression you are investing in will be duplicated in another distillery or for production to ramp up from the one you bought from. Put yourself in the shoes of the distiller before you buy a bottle!
選抜 On Splits
What I mean when I say splits is effectively how to split out the various production lines and brands. Few distilleries put everything they produce into 30-year storage for bottling into single cask statements. You get cuts that go for blending (in Scotland a fairly high amount, in Japan less so), cuts that go for single malt, and cuts that can go for single cask. This is impossible to know ahead of time and depends a lot on luck of the draw during the maturation process. Still, on an overall market level, the majority of whisky drank is blended, and only a low single digit percent is high age statement single cask. Hence, there is quite a lot of room to spin the money around on blends, and keep the more costly produced stuff as collectors items. In Scotland I would thumb a 60-30-10 split, whereas in Japan I would probably look more at a 50-30-15-5 (split between blended/blended malt, NAS single malt, “statement single malt”, single cask). Certain companies will shift around a bit to find their niche and I’d adjust for this, but it’s a starting point at least.
全体像 Holistic View
Rarity basically has two components, if you ask me - the probability that you might have a good barrel, and the cost that goes into enhancing or perfecting that barrel. We spent quite a bit of time on the initial component of trying to figure out the cost of enhancing the barrel. The other part is much more craftsmanship!
Let’s do a waterfall analysis, saying that we do a 60-30-10 “Scotch” split on an annual production of 10,000 litres to make things easier (I don’t do this for any Japanese distillery, but it shows the methodology). 3% Angel’s Share per year, 4 year average aging for a blend, 12 year average for a single malt, and 20 year average for a single cask.
6,000 litres of Blended going in. After angel’s share, 89% remains = 5340 litres of annual production (7,628 bottles at cask strength - 60% ABV, 11,442 bottles at 40% ABV - the lower legal ABV limit).
3000 litres of single malt going in. After angel’s share, 72% remains = 2160 litres of annual production (3,085 bottles at cask strength, 4,628 bottles at lower legal ABV limit).
1000 litres of single cask going in. After angel’s share, 55% remains = 550 litres of annual production (785 bottles at cask strength).
We can here see that there is a capacity to produce 14.58 times as many 700 ml bottles of blended lower ABV whisky compared to single cask cask strength bottles. Bump up the angel’s share, and the calculations change quite aggressively, but the delta is equivalent when changing percentage basis (if you start with 50% more in any category, you get 50% more out of that category at the end).
余韻 Finishing Notes
I have full understanding that an article like this is like an over-peated, over-aged whisky - difficult to take in with much volume and even more difficult to appreciate all at once. If I were reading this from any other perspective than my own head, I would look at this as a reference, similar to how I look at heavily peated whiskies.
Look back on it when I refer to distilleries or expressions coming out and how I look at them from an investment perspective. There I will briefly mention things like rarity, aging, location, etc. Having this perspective and knowing that you can refer back to this article is something I hope will add colour and flavour and a point of reference. Adding a richness of depth and context making those expressions of my investment rationale easier to absorb is the goal here. Even if this particular pour from my mind leaves you on an ashy, burnt out note.
