Switching of Wine Juice Production Methods: An

Application to the Indiana Wine Market

Whitney Oliver Peake Whitney Oliver Peake Purdue UniversityPurdue University

Brian C. BriggemanBrian C. BriggemanOklahoma State UniversityOklahoma State University

SAEA Annual Meetings 2006SAEA Annual Meetings 2006Orlando, FLOrlando, FL

MotivationMotivation

Reduction of Tobacco Quotas in Southern Reduction of Tobacco Quotas in Southern IndianaIndiana

Farmers need viable alternative cropsFarmers need viable alternative crops

Grape and wine production, Bordelon (1999)Grape and wine production, Bordelon (1999)

Indiana Wine PolicyIndiana Wine Policy

Indiana Small Winery Act Indiana Small Winery Act Passed in 1972Passed in 1972 100,000 gallons to 500,000 gallons100,000 gallons to 500,000 gallons

IC 7.1-3-12-6IC 7.1-3-12-6 Can import grapes, grapes juice, other fruits or fruit Can import grapes, grapes juice, other fruits or fruit

juice, and honeyjuice, and honey Adequate supply not available in IndianaAdequate supply not available in Indiana Can still label as Indiana product (i.e. Indiana Wine)Can still label as Indiana product (i.e. Indiana Wine)

ObjectiveObjective

Is grape/wine production a viable alternative Is grape/wine production a viable alternative cropcrop

Quantify the implications of Indiana policy for Quantify the implications of Indiana policy for wine producerswine producers

MethodologyMethodology

Investment AnalysisInvestment Analysis

NPVNPV

SimulationSimulation

Real options thinking, McGrath and MacMillan Real options thinking, McGrath and MacMillan (2000)(2000)

Actual Data and Estimates

Import Grapes if MC > Import Price

Capacity!

Simulate NPV

Vineyard and Winery

Use own grapes Simulate NPV

Vineyard and Winery

Simulation Model

D.R. = 15% N = 11 years

VW Cost = $142,404 Residual Value = $0

Import Price = $575/ton Grape Price=$550/ton

Wine Price = $38.40/gallon

Simulation Model Assumptions

Best Most Likely WorstYear 1 15 lbs 17 lbs 20 lbsYear 2 14 lbs 14.5 lbs 15 lbsYear 3 13 lbs 14 lbs 14.5 lbsYear 4-8 13 lbs 13.5 lbs 14 lbs

Triangle Distribution Wine Efficiency

DataData

Indiana Wine Producer (2001 – 2004)Indiana Wine Producer (2001 – 2004) ProductionProduction CostsCosts

Michigan Agricultural Statistics Service (1970 – Michigan Agricultural Statistics Service (1970 – 2003)2003) Grape productionGrape production

Indiana Wine Council (1997 – 2003)Indiana Wine Council (1997 – 2003) Wine sales for IndianaWine sales for Indiana

NPV Model Results (CDF Graph)NPV Model Results (CDF Graph)

0%

25%

50%

75%

100%

-$400,000 -$300,000 -$200,000 -$100,000 $0 $100,000 $200,000 $300,000

NPV

VW (own production) VW (can import)

Mean -$67,225 Mean $140,042

NPV Model Results (CDF Graph)NPV Model Results (CDF Graph)Sensitivity 75% Market ShareSensitivity 75% Market Share

0%

25%

50%

75%

100%

-$450,000 -$400,000 -$350,000 -$300,000 -$250,000 -$200,000 -$150,000 -$100,000 -$50,000 $0 $50,000 $100,000

NPV

VW (own production) VW (can import)

Mean -$171,591

Mean $29,138

NPV Model Results (CDF Graph)NPV Model Results (CDF Graph)Sensitivity Import Price $650/tonSensitivity Import Price $650/ton

0%

25%

50%

75%

100%

-$400,000 -$350,000 -$300,000 -$250,000 -$200,000 -$150,000 -$100,000 -$50,000 $0 $50,000 $100,000 $150,000

NPV

VW (own production) VW (can import)

Mean -$67,274

Mean $29,187

NPV Model Results (CDF Graph)NPV Model Results (CDF Graph)Sensitivity Wine Price $30/gallon Sensitivity Wine Price $30/gallon

0%

25%

50%

75%

100%

-$500,000 -$400,000 -$300,000 -$200,000 -$100,000 $0 $100,000

NPV

VW (own production) VW (can import)

Mean -$171,557

Mean $29,116

ConclusionsConclusions

A vineyard is a viable alternative crop for A vineyard is a viable alternative crop for southern Indiana farmerssouthern Indiana farmers Implications for surrounding areas (e.g. Implications for surrounding areas (e.g.

Kentucky)Kentucky)

Incorporating real options thinking is critical Incorporating real options thinking is critical for appropriate analysisfor appropriate analysis

ConclusionsConclusions

Vineyard is viable but must import grapesVineyard is viable but must import grapes Operate winery at capacity Operate winery at capacity

Use of fixed assetUse of fixed asset Important to properly care for vineyardImportant to properly care for vineyard

Indiana policy is beneficial for farmersIndiana policy is beneficial for farmers Vineyard is economically viableVineyard is economically viable Value of policy $207,267Value of policy $207,267

More conservative estimate is $96,461 More conservative estimate is $96,461

QuestionsQuestions