What’s In a Name? Hedonic Pricing for Okanagan Valley Wines

This is a partial re-post (of a paper written by Hannes Edinger, Department of Economics, University of British Columbia, Okanagan. This material is copyrighted and approval was sought before posting.   Mr Edinger is a Master’s of Economics candidate at Queen’s University in Canada.  He is currently living in Ottawa, and actively pursuing Wine/Lifestyle Economics research. He recently presented this paper at the Canadian Economics Association Conference in Quebec and will be  at UC Davis for the American Association of Wine Economists Annual Conference  June 25-28th, 2010.

See the full paper HERE

A hedonic pricing function is estimated for wines produced in the Okanagan Valley of British Columbia,Canada. We investigate implicit prices for objective wine attributes, as well as success at a local winefestival. In differentiating wine prices and wine festival success, we focus on the importance of naming, specically, trendy and geographically indicative names, grape appellation, and business association membership. Variables with a statistically signicant impact on wine price include: several objective attributes, vintage characteristics, as well as business association membership of the winery. While some aspects of naming are found to be unimportant with respect to differentiating wine prices, grape names are important, and several naming aspects are important for winning awards, as is business association membership, location, quality certication, and grape variety.

Part I

The Okanagan Valley Wine Industry is relatively young; it’s current manifestation is barely twenty years old. Young wine industries must dene, and market themselves in order to compete with well established Old World, and New World wine industries. One method of marketing that has been adopted in New World Wine industries is a departure from traditional appellation in the naming of a winery, a wine or even a grape variety. California’s wine producers exemplify this practice, and wine producers in the Okanagan Valley have caught on. We investigate the marginal impact of naming attributes on the prices of Okanagan Valley Wines, and business association membership (which has been a complex and evolving part of the Okanagan Wine Industry), as well as a traditional vector of explanatory variables to determine which marketing and membership practices are helping wineries fetch higher prices for their products, and which practices are not. Rabkin and Beatty (2007) have investigated the marginal impact of the Vintner’s Quality Alliance (VQA) certication on the bottle of a British Columbia (BC) wine, however to our knowledge, no study has directly
examined Okanagan Valley Wines’ price determinants, nor has any study examined the impact of business association membership, or the subtleties of naming practices on price. We regress price on two continuous variables, and a vector of traditional, and novel dummy variables. We nd that two business associations
provide premia on the price of a bottle of Okanagan Valley Wine, while a third reveives a discount. We cannot identify any signicant effect with respect to naming practices except when a winery chooses to use the grape appellation “Shiraz” instead of “Syrah”  for which we nd a large, and signicant effect. In Part II, we review the history of the Okanagan Valley Wine Industry, including the evolution of the business associations therein. In Part III we briey summarize the background of wine’s hedonic pricing literature, in Part IV we present our empirical estimation and results, in Part V we conclude our discussion.

Part II

The Okanagan Valley, located in the interior of British Columbia (BC), Canada produces most of BC’s wine. Wine production in BC is expanding to include Vancouver Island, the Lower Mainland, and even areas north of the Okanagan, however the Okanagan Valley will remain the dominant producer for the foreseeable future.

The current state of the Okanagan wine industry is a response to the 1989 Free Trade Agreement (FTA) and the 1991 North American Free Trade Agreement (NAFTA). Prior to these trade agreements, Okanagan grape and wine producers produced inferior quality table wine for local consumption and low grade grapes for export to wine producers in the United States. The market for low quality table wine produced in the Okanagan persisted as a result of the BC Government’s trade regulation; specically, protectionist tariffs on imported wines and localized subsidies (Kingsbury and Hayter, 2005). Following the 1988 free trade agreement between Canada and the United States, Okanagan grape and wine producers faced an impending wave of superior quality products oered at low prices from the United States. The Okanagan grape and wine industry, and the BC Government, knew that the survival of this industry in the Okanagan rested on a shift to up-market wines. The BC Government intervened to create the British Columbia Wine Institute (BCWI): a business association that de-facto legislated the membership and nancial contributions of BC wine producers (Kingsbury and Hayter, 2005). The BCWI created BC’s own quality certication modeled on a certication established in Ontario, the VQA. This certication has been shown to offer premia on the price of a bottle of BC VQA certied wine (Rabkin and Beatty, 2007). The Okanagan Wine Industry has matured, the importance of the BCWI has diminished, and new business associations have arisen privately (Kingsbury and Hayter, 2005). The Okanagan Valley is colloquially known as “Canada’s California” due to its mild climate, desert-like landscapes, and proximity to water and agriculture, particularly viticulture. This has manifested itself in the Okanagan Wine Industry in several ways: following California’s lead, they have departed from traditional appellations, referenced characteristics of their surroundings in their appellations, and even followed California’s lead in occasionally adopting the Australian appellation of the Syrah grape: Shiraz. While branding the Okanagan “Canada’s California” has served the marketing of the area well, the same does not necessarily hold for the Okanagan Wine industry.

Part III

A good can be considered as a bundle of attributes, and its price the sum of the implicit prices of those attributes. A highly differentiated good that fetches a wide range of prices in a competitive market, like Okanagan wine, is a candidate for a hedonic pricing analysis. Okanagan Wines are an interesting candidate for such an analysis because the Okanagan Wine Industry is a young industry, and as global climate patterns change, and wine production expands into newly receptive regions, many new wine-producing regions will have to face similar challenges in establishing themselves. Knowing how different characteristics of Okanagan Wines are priced may provide useful information for young wine industries in general. Waugh (1929) initiated the quantitative thrust of this type of study; he was able to calculate the implicit
prices for attributes (color, stalk size) of asparagus. Rosen (1974) developed the theoretical framework upon which much of the subsequent hedonic studies have been based. His paper also suggested an identication problem: are the implicit prices of attributes a reection of producer costs or of consumer preferences? Nerlove
(1995) tries to solve this identication problem in his study of the preferences of Swedish wine consumers. The Swedish wine market consists only of imports, and government importers x prices. Nerlove suggests that by using quantity sold as the response variable and treating prices as exogenous, under the conditions of

the Swedish wine market, he could isolate consumer preferences. We argue (like Schamel [2000] and Freeman [1992]) that the identication problem proposed by Rosen and raised by Nerlove does not apply in any signicant way to our study because a large proportion of Okanagan Valley wines are sold in BC (prices are chosen by the BC Liquor Distribution Branch to clear the market, reecting consumer preferences), and in the short run, due to the biological limitations of grape vines, and the various regulatory and scal hurdles that must be overcome, supply is effectively xed. Our argument assumes that the market for Okanagan wines is competitive and near equilibrium. Beyond his suggestions for resolving the identication problem, Nerlove also measures: acidity levels, sugar levels, and several chemical components, for which he nds some signicance with respect to their impact on prices. These objective measures are absent in most of wine’s hedonic pricing literature. The literature tends to disregards these types of chemical measurements for two reasons: because a vector of common objective and sensory attributes largely explain the variation in wine prices, and ultimately wine is an experiential good where consumers must make a purchase decision using attributes that are identiable before consumption. Chemical measurements that inuence taste or cellaring potential are expensive, and they are well proxied by sensory and cellaring potential ratings – ratings for which data are cheap and plentiful. Like many young wine producing regions, the Okanagan produces wines which comprise a segment of the wine market for which cellaring potential is not likely to inuence price. For this reason, we omit this measure in our pricing function. The most well known hedonic study of wine prices is Orely Ashenfelter’s study (1995) on the price of vintage Bordeaux wines. It was made popular by its results and implications: statistical methods can outperform experts in predicting future wine prices. Ian Ayres’ discussion of Ashenfelter’s ndings in Ayres’ book Supercrunchers (2008) and Robert Parker’s vehement denunciations of the use of statistical methods in wine price predictions have both contributed to the popularization of hedonic wine studies. In the Okanagan valley, as it is worldwide, wine is a growing industry of increasing importance. Even as some other agricultural producers in the Okanagan ounder or abandon their crops, wine and grape producers are expanding. While the price determinants of BC wines, and VQA certication specically have been examined (Rabkin and Beatty, 2007) there has been no attempt to identify attributes that differentiate BC wines with respect the nature of their appellation or their business association membership. Estimation of these attributes is missing from the literature in general. While any quantitative or qualitative measure that enters into a wine consumer’s purchase decision is a candidate explanatory variable in a hedonic pricing function, it has been established in the wine literature that objective attributes provide more explanatory power with respect to prices than subjective (experiential) attributes (Lecocq and Visser, 2006). The logic is clear: a consumer is unable to judge, on a first purchase decision, the experiential qualities embodied in the wines they are choosing from, so they must rely on objective qualities that can be gleaned from the wine’s label information, or reputational information that they know a priori. We follow this objective model in this investigation, and we focus on information thatis present on a wine’s label, including the naming information, the wine’s physical presentation (volume), and we include a variable reecting a winery’s performance at a local wine festival to proxy for colloquial reputation.

A hedonic pricing function is estimated for wines produced in the Okanagan Valley of British Columbia. Our model builds on the traditional models (e.g. Lecocq and Visser, 2006) that focus on objective attributes, by including reputation effects, aspects of name choice, and business association membership. While winery name choice is not found to inuence price, it is important in explaining a winery’s reputation score (medal winnings): departures from traditional appellations contribute negatively, while references to the locality contribute positively. Higher reputation ratings do not, on average, contribute to higher wine prices for a winery. Business association (BA) membership is a complex phenomenon in the Okanagan wine industry. In response the NAFTA, the BCWI, a government initiated and supported association, was created to help shift local wine production to up-scale products (Kingsbury and Hayter, 2005). Since then, two other BA’s in the Valley have arisen privately, the ABCW and the OWFS. While VQA certication continues to provide BCWI members with a premium (Rabkin and Beatty, 2007) on VQA certied bottles of wine, on average, wineries

aliated with the BCWI receive a discount while wineries aliated with the ABCW and OWFS receive premia. Interestingly, BA membership is also important in explaining reputation scores. BCWI and OWFS membership contribute positively, while ABCW membership contributes negatively to reputation scores. Location is found to be important for both price and reputation, though the marginal contribution of specic localities can be different (even in sign) with respect to price and reputation. Of particular consequence for local wineries, is a costless decision to label a Syrah grape in the Austrialian tradition: Shiraz – as many Californian wineries do – this creates a 39% discount over a comparable bottle labeled Syrah. Okanagan Valley Wineries, and young wine industries in general, should be cautions in the development of their industry. What has worked for one industry does not necessarily carry over to another, and what creates success at wine competitions does not necessarily create success at the checkout counter. The results of this research imply that a consumer’s purchase decisions with respect to wine are complex. The signicance of naming, awards
and geography suggest that selling wine is about much more than the wine itself, it is about trends and cache. Further investigation into the particularities that differentiate wine prices, beyond the wine itself, would be useful in an effort understand the complex package of attributes that consumers value when they purchase a bottle of wine.

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Regulating quality is the key to Arizona wines success

The recent success of Arizona wines in the Judgment of Arizona 2010 highlights Arizona wine makers ability to compete with the big names in the industry.   This event has gone a long way to educate the public on the ability of Arizona wine makers to compete.  Public perception of the quality of Arizona wines is still skeptical and Arizona wine makers still have work to do in improving that public perception. A perfect case study of this point is the British Columbia wine industry, in Canada.  The interior of British Columbia has a dry and warm climate by Canadian standards and is capable of producing wine.  For many years the industry was based on  producing cheap low quality table wine for the local market and shipping low-grade grapes to the United States.  I spent 20 years in BC and the attitude toward their wine industry almost mirrors the perceptions of Arizonans regarding their own wine industry.  The BC wine industry underwent radical changes with implementation of NAFTA.  The industry had been protected from cheaper higher quality imports by tariffs.  Faced with the impending onslaught  of cheaper higher quality wines British Columbian wine producers were forced to make significant improvements  in order to compete.  In fact they were forced by the government through an act of legislation.

The VQA label is a sign of quality wine

The government developed a certification process called the British Columbia Vitners Quality Alliance (VQA), which is similar to the  regulatory systems of the AOC in France and the DOC in Italy and  the VQA system in Ontario, Canada.  VQA is quite different from the American Viticultural Area (A.V.A.) designation.  The A.V.A. does not regulate the type of grapes or method of vinification.  A.V.A. designation refers more to the geographical boundaries and unique characteristics of the terroir.  I doubt whether a similar act of legislation would ever pass in Arizona but that doesn’t mean that a voluntary quality assurance code and certification couldn’t be developed.  Currently the system in British Columbia is no longer mandatory and is  being regulated by the British Columbia Wine Authority.  In order to be VQA certified 100% of the grapes must be from British Columbia and the wines are screened by a professional tasting panel.  Wines that are found to be faulty cannot be sold as VQA certified.  The VQA label appears on the bottle of certified wines and helps consumers identify quality locally made wines.

Here is a summary of the British Columbia VQA Standards and Certification as stated by the BC Wine Institute:

Quality standards
The BC VQA controls minimum Brix levels at harvest, states acceptable oenological practices, prohibits the addition of water, limits the levels of chaptalization (chapitalization is the practice of adding more sugar to the ‘must’ than was developed naturally in the grapes that have been crushed), controls the use of sweet reserve wine additions, and prohibits the practice of fortification other than in wines labeled as such.

Geographic region
Only wines made from grapes grown exclusively in a specific region such as the Okanagan Valley, Fraser Valley, Similkameen Valley, Gulf Islands or Vancouver Island can display the name of the region on a wine label.

Vineyard designation
Only grapes grown exclusively from a designated vineyard can be named on a wine label.

Estate bottled
Only wines made exclusively from grapes grown, produced and bottled on an estate may be labeled as “estate bottled”. This can be land owned, or controlled, by a winery.

Wine category
Determines how the wine is made and labeled: Table Wine, Icewine, Botrytized, Late Harvest, Nouveau, Sparkling, Fortified or Liqueur.

Labeling guidelines
Determines if a wine is to be labeled as a single varietal, dual varietal, blend, vintage dated, and includes sugar content and sweetness descriptors. Labeling regulations also control the use of Geographic Indicators.

Each application for BC VQA must be accompanied by a signed affidavit that the wine has been made according to BC VQA standards from 100 per cent BC grapes. It is signed by the winemaker and the company officer.

Winery audits
Wineries must keep production records for each wine and make them available to the BC Wine Authority upon request.

Laboratory analysis
Wineries must submit a laboratory analysis with each submission to the BC VQA panel.

Label approval
Each wine application must be accompanied by a label, which is reviewed for accuracy.

BC VQA wines must bear “BC VQA” on the principal label and be closed with cork or another approved closure.

Wine audits
At the discretion of the BCWA, wines bearing BC VQA are independently audited to certify wine quality.

Tasting/Evaluation Panel
All wines are tasted blind by a six-person panel of trained judges. The wines are screened for defects and character.

Icewine must be made exclusively from British Columbia grapes, and from authorized grape varieties. The grapes must be naturally frozen on the vine, and processed while the air temperature is minus 8 degrees Celsius or lower.

Artificial refrigeration of the grapes or the juice, must or wine for the purpose of increasing must weight is prohibited at any point in the production process except for temperature control during fermentation and cold stabilization prior to bottling.

1990 before the establishment of the VQA British Columbia was producing about 600,000 litres, or about 159,000 gallons of wine.  In 2008 production was up to about 6.6 million litres or about 1.75 million gallons, that is an increase of more than 1000%, and I bet you the wines taste 1000 times better as well!