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The PLCB and its new pricing power

For decades, the Pennsylvania Liquor Control Board operated in a way that seems absurd on the face of it: Suppliers, including giants like E. & J. Gallo Winery, Diageo, and Constellation Brands, determined prices for their products in State Stores.

That was because the PLCB was required to use a fixed, publicly known markup. From 1993 on, that was 30 percent.

To calculate how much they needed to charge the PLCB to get a desired retail price, suppliers could use a formula that included the 18 percent levy known as the Johnstown Flood tax, as well as other fees.

Using its clout as one of the nation's biggest buyers of wine and spirits to get a lower wholesale price, however, just reduced the state system's profits because the PLCB was stuck with the 30 percent markup.

No more.

Last summer's massive package of changes to Pennsylvania's liquor laws -- including wine sales in supermarkets and direct wine shipping -- eliminated the standard markup on most items the PLCB sells. Pennsylvania is the first liquor-control state to end fixed pricing.

Now, if the agency negotiates a price of $11 for a bottle of whiskey instead of $12, it can keep the extra dollar instead of taking a smaller margin. In other words, the PLCB can act like any private-sector retailer.

How that will work out for consumers in the long term remains to be seen.

"It continues to be our intention, and I repeat that, to not broadly increase retail prices on our best-selling items," Tim Holden, chairman of the three-member Liquor Control Board, told lawmakers at a hearing last month.

At the end of November, 17 retail-price reductions took effect, generally from $1 to $3 per bottle, with dozens more possible in the next couple of months, the PLCB said in an email response to questions.

"Lower retail prices will be seen for Smoking Loon and Yellow Tail wines, as well as Cointreau, Remy Martin Cognac and Woodford Reserve Whiskey, as a few examples," the PLCB said. Of those brands, only Yellow Tail was among the system's top 100 in fiscal 2016.

The pricing change turns the tables on wine and spirits suppliers and brings the PLCB one step closer to acting like a private retailer.

"Manufacturers like Kellogg and Coke and Pepsi, they don't get to set the price at retail," said Mark Lang, an assistant professor of food marketing at St. Joseph's University. "They sit down with the retailer and they talk about target prices, and they negotiate their wholesale price to try to get to a shelf price, but they don't set it. They only ask."

A half-dozen of the PLCB's biggest suppliers either declined to comment for this article or did not respond to requests for comment, leaving trade-group representatives to speak for them.

"My biggest concern is the lack of transparency," said Terri Cofer Beirne, Eastern counsel for the Wine Institute, a San Francisco trade group for California wineries. "The PLCB wants to be a sexy private wholesaler, but they're not. They are the government."

David M. Ozgo, chief economist of the Distilled Spirits Council of the United States, called the adoption of flexible pricing by PLCB officials the worst kind of economic outcome for consumers.

"Previously, under the fixed-pricing formula they were constrained by the pricing formula," Ozgo said. Flexible pricing turned the PLCB  into "a state-sponsored monopoly without any constraint."

The PLCB said lawmakers and Gov. Wolf have set two priorities for the agency as it flexes the pricing muscle it won in the law known as Act 39: more money for the state and better prices for consumers.

On the first count, the agency sounded cautious, saying: "The PLCB has yet to be able to meaningfully estimate how much additional revenue might come from Act 39's flexible pricing authority."

But during a budget hearing in 2015, the agency estimated that flexible pricing would generate an additional $47 million to $75 million in annual revenue. That compares in fiscal 2016 with $348 million from the Johnstown Flood tax, $144 million from state and local sales taxes, and $100 million in profits transferred to the general fund.

At the 2015 hearing, a document called "PLCB Profit Enhancement Concepts"  used a top-selling whiskey to show how Pennsylvania could benefit from flexible pricing: Virginia paid $12.19 for a bottle that cost Pennsylvania $14.46.

If Pennsylvania could use its buying power to get the same price Virginia did, it could boost its gross profit per bottle by $2.27 without increasing the shelf price, the PLCB said. Doing so would amount to $2 million in profit and taxes annually on one item, it noted.

Virginia paid less for that bottle of whiskey not because it had better negotiators. Manufacturers have varying wholesale prices in control states "based on what they know that markup is going to be," said Steve Schmidt, senior vice president of public policy and communication for the National Alcoholic Beverage Control Association.

Virginia has a bigger markup (64 percent), so it got a lower wholesale price.

If all 17 control states had to pay $12.73 for a bottle of liquor, the retail prices would range from $16.68 in West Virginia to $27.90 in Oregon, with Pennsylvania right around the middle, at $21.59, according to the Alcoholic Beverage Control Association.

That window into pricing is now closed in Pennsylvania, forcing suppliers to guess what their competitors are charging.

The new law requires the PLCB to report to the General Assembly on its pricing rationale and methods, but those reports will not include individual wholesale prices.

"We believe that disclosing specific product acquisition costs will hurt our ability –  as a business –  to negotiate effectively and maximize revenue," the PLCB said.