Now that we have received our site approval, which allows us to OFFICIALLY begin work turning 401 Second Street into The Virginia Beer Company, I thought it would be prudent to take a look back at our site approval process with a focus on how it all began at our initial pre-approval meeting with York County. This was the meeting that formally started the process of establishing the county (and city and state!) review of our proposed construction/operation plans.
On a daily basis we're reminded of how challenging it is to open a complex manufacturing operation like a brewery. There are a million pieces to the puzzle; we've completed the border and are slowly making headway as we try to fill in the rest. Given that we've ordered the bulk of our brewing equipment, submitted a site plan, and are close to completing our building plans, we've now moved on to other pieces of equipment that are equally as important but require less lead time.
One of those items is our keg float. The beer we produce will only be as good as the container from which it is served! While kegs may seem relatively minor in terms of the entire brewing process, they are a major expense for a brewery and can become a bottleneck for production if there aren't enough available. Cleaning kegs is a repetitive, thankless job the best job in the world, is anyone interested?
Understanding the lifecycle of a keg is important before considering how to procure them. Kegs arrive at a brewery and are then cleaned and sanitized according to the brewery's procedures. The keg is filled with finished beer and then transported a wholesaler's warehouse. From there the wholesaler delivers the keg to a retailer upon order. The wholesaler returns to the retailer to pickup the empty keg once it has been served. The empty keg then returns to the wholesaler's warehouse and is eventually returned to the brewery.
This process can be quick (2 weeks or so) but is generally between 4-6 weeks. Retailers will sometimes hold onto a keg for a long period of time before serving the beer. Basically, breweries have no idea when their kegs will be returned! Another issue to consider is keg loss. This can happen due to simple misplacement of kegs, wholesalers returning kegs to the wrong brewery, or somebody stealing kegs and scrapping them for cash. The Brewers Association calculates that keg loss costs every brewery between $0.46 and $1.37 per-barrel of annual keg production. That really adds up over time!
There are a few options when it comes to procuring kegs. One is to simply purchase new kegs from well-known manufacturers like Franke or Schaefer, or from companies that resell kegs from China and other places. There are some used kegs available for purchase as well, but prices are generally high (everybody is looking for kegs!) and you never know how well the kegs have been treated/cleaned over time.
One of the industries that has benefited most from the enormous growth of craft beer is the keg leasing industry. There are multiple companies (like Keg Credit, Keg Logistics, and Atlas Keg) that offer daily lease rates for new kegs. Most offer either set term leases or lease-to-own programs that include a purchase option after a certain period. Some companies, like Microstar Keg Management, go even further and integrate the logistics of the packaging process into the keg lease. Microstar provides breweries with as many kegs as they want from a pooled set of kegs, and once those kegs are filled and shipped to a wholesaler the tracking and return is completely handled by Microstar.
Every brewery handles their keg needs differently depending on a multitude of factors. We are currently considering each of the options laid out here and are planning to make a decision within the next month or so. At least we get to put together another spreadsheet to help evaluate our options! It's like we never left the world of finance. But it's better to be evaluating kegs instead of hedge fund performance!
Earlier this week I shared a bit about the history of 401 Second Street. Now for a sneak peek at the future of the property! We've officially submitted a site plan to York County in order to receive approval for changes that we want to make to the property. While we cannot share the detailed site plan, below is the original schematic drawing that was completed by our architect, John Hopke of Hopke & Associates, to inform the civil engineer of the intended changes to the property. Some changes have been made since the schematic was completed, but it gives a general idea of what will be changing.
The entire property is going to be refurbished. The parking lot will be repaved, new plantings will be added, and new lighting will be installed. We will be constructing a new concrete pad at the rear of the building to hold our glycol chiller, and we will also be preparing an area for the future installation of grain silos. Most notably, we are making changes to the front of the building that will completely redefine the property.
The section of the property fronting Second Street currently has two entrances and a small parking area directly in front of the building. We will be closing the entrance closer to the Merrimac Trail stoplight and turning the small parking area in front of the building into a 1,400 square foot patio and beer garden. We are even incorporating a food truck pull-in so our customers don't have to leave the patio when hungry! We are incredibly excited to be adding badly-needed outdoor drinking and dining space for all of our future customers!
We met with York County in mid-February for a site plan pre-approval meeting. We are hoping that the feedback received from that meeting and incorporated into the finalized site plan will reduce the approval time from six weeks to four weeks. The sooner we are approved, the sooner our site contractor can begin work at 401 Second Street!
One of the things that people outside of the beer industry often overlook is the ingredient supply chain. Procuring raw ingredients to produce beer isn't a sexy part of the business, but it's obviously necessary and important for the continued operation of a brewery. Forethought and planning is required for every ingredient that ends up in a beer, but hops demand the bulk of the attention.
Hops are the female flowers of the Humulus lupulus plant. While traditionally used mostly as a bittering agent and a preservative, hops have more recently been utilized for their aroma qualities. You can thank hops for all of those great citrus or pine aromas you're getting from that IPA in your hand! As an agricultural product, hops are subject to the whims of Mother Nature. Harvests have been stable in recent years, but there is always the chance that a shortage could occur. One such event occurred in 2008 and it caused major issues for craft beer production in the US.
As a result of the unpredictability of harvests and the ever-changing tastes of consumers, forecasting both the availability of certain hop varieties and the level of consumer interest is an extremely challenging exercise. Due to the high level of demand for hops, though, breweries routinely forecast their needs and enter into forward contracts for as many as five to seven years. An additional benefit of forward contracting is that hop farmers receive valuable signals about the direction of the market and adjust their acreage accordingly.
We are no different here at The Virginia Beer Company. Many startup breweries have a tough time purchasing certain high-demand varieties through the spot market. We didn't want to be caught in that position after years of testing recipes, so we entered into our first hop contracts for the 2014 harvest. We recently completed all of our contracting through the 2017 harvest! As I mentioned, forecasting our actual needs is challenging. Increasing production more quickly than anticipated and running out of hops would be a good problem to have, but it would still be a problem. If we've done our research and planning correctly (and nature cooperates...) we will be able to brew our recipes through 2018 without worrying about shortages!
Here are the key stats related to our hop contracts:
- 4: Hop wholesalers with whom we have contracted.
- 5: Countries where our hops will be grown (England, Australia, Germany, New Zealand, & the U.S.)
- 6.35: The lowest priced variety of hops per pound, in dollars (2014 U.S. Columbus).
- 11.66: The average price of all contracted hops per pound, in dollars.
- 16: Unique varieties of hops that we will be purchasing.
- 20.30: The highest priced variety of hops per pound, in dollars (2016 U.S. Sorachi Ace).
Finally, the moment you've all been waiting for: more information about pro forma financial statements and financial analysis in a business plan! Don't everyone flock to this post all at once. Financial analysis can be dry and uninteresting but it is absolutely essential to understanding the viability of a potential business venture. The process of putting together financial statements begins with either revenue modeling or cost projections. The order of creation depends on whether you are an optimist or a pessimist!
We began compiling our financial projections by building a revenue model that consists of our sales channels, the planned sales mix within those channels, and product pricing estimates. Every input in our model is adjustable so that we can produce different revenue projections that account for increases or decreases in our pricing or changes in how much beer we sell out of our taproom vs. wholesale. We can project these figures using any level of monthly or annual production, which allows us to account for revenue seasonality as well. It's fun to project revenue generation at 200% of planned production levels! And then it's very sobering (but necessary) to project revenue generation at 50% of our planned production levels.
The next step for us was to review costs. This was a two step process. First, we researched prices and spoke with an unending stream of suppliers to determine the capital required to start the business. Examples of these costs include the brewing system, a glycol chiller, and furniture for our taproom. Second, we went through the same process to determine our ongoing expenses. Those monthly costs include rent, utilities, brewing ingredients, and labor. We built another model that adjusts in response to changes to any of our monthly "running" costs. For example, we can alter the model to account for unexpected inflation increases (and the resulting increases in salaries and related payroll tax payments) or a 10% rate increase from Dominion Power.
The two sides of the equation are brought together in the financial statements. The business plan for The Virginia Beer Company contains three year's worth of monthly Income Statements, Balance Sheets, and Statements of Cash Flows. It also includes those same three statements in an annual summary format to cover the first five years of operation. Our analysis of those statements includes projected financial ratios (comprising liquidity measurements, profitability indicators, operating performance measurements, and cash flow indicators), a break-even analysis, and an earnings sensitivity analysis, which measures the sensitivity of projected net income to changes in both gross margin and total operating expenses. The Financial Analysis section of the table of contents of our business plan is shown to the right - it's a total of sixteen pages!
Building adjustable models and incorporating them into our financial statements was one of our better time investments. We have a base set of projections for annual production, and all of the hard-coded financial figures in our business plan (like our chart detailing financial highlights for the first five years) are compiled using those projections. However, when we speak to investors we have the flexibility to share altered projections or answer important questions about the future financial health of the business. This is especially true when referring to cash on hand for operating the business. I would encourage anyone starting a brewery, or any type of small business, to build similar flexibility into your financial projections.
Writing a business plan is a daunting exercise. There are no true standards for substance or length, but the documents often run between 30 and 60 pages and include content related to all aspects of the business and industry. The business plan for The Virginia Beer Company clocks in at 51 pages, including the text, financials, and an appendix. We began researching business plans in early 2011 in advance of making the final decision to pursue a new brewery. The actual writing process didn't begin until September of 2012, but by that time we had a very good idea of what would be included. We believed that the main task would be the consolidation of existing notes and emails that Robby and I had been sending back and forth. When pen hit paper (or whatever the technological equivalent would be) we were definitely surprised by how much work actually remained!
The two distinct portions of the business plan are the text section and the financials (although a good business plan always references financial figures in the Executive Summary and various other places). I'm going to cover the creation of financial statements in a separate post due to the complexity of that process. The first order of business for us was coming up with a rough table of contents...