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This article is one of a series on privatizing wine and spirits sales in Pennsylvania. The full list of articles may be found on the Privatization Index Page.

One of the mantras of the pro-privatization crowd is that a privatized system would expand product selection in Pennsylvania. I made clear in an earlier post that I believe the wholesale fees imposed by HB11 work against diversity of selection, but the question remains: How does the product range in our state stores compare to unrestricted private markets?

Top figures at the PLCB have publicly stated that they believe the selection in their stores to be comparable to what is found in license states. In a January New York Times article, CEO Joe Conti said that his Premium Collection stores are "as good as you would find anywhere in the country." PLCB Chairman PJ Stapleton testified to the House Appropriations Committee in March, "We're very proud of the fact that [...] there's great product selection in Pennsylvania."

In general, the PLCB tends to compare itself to private liquor stores in other states as if it were just another retailer in a competitive market. This is a tacit acknowledgement of what residents in border areas perceive it as. Viewed from this perspective, the PLCB is a well-established, experienced retailer with a solid mass-market selection, generally reasonable prices, and attractive deals on some products that even draw in shoppers from out of state.

Of course, the PLCB is not "just another retailer." To those of us who live far from the state border, not to mention Pennsylvanians who wish to avoid breaking the law, it is the entire wine and spirits market. No other retailer can step in to serve consumers whose needs the PLCB leaves unfulfilled.

Given our statutory prohibition against choosing between competing retailers to shop at, the only reasonable evaluation of our available product range would be to select a sizable geographic region in a license state and put our state stores up against the combined selection of every private retailer in that region.

I don't have a list of all products available from all retailers in, say, South Jersey, but I do have distilled spirit price lists from a handful of specialty outlets across the country. Although these are a poor proxy for a comprehensive regional product list, they are sufficient to answer our original question.

A break-down of these price lists, with supplemental bottle sizes and gift packs removed, is as follows:

	PLCB	Astor W&S	Bevmo! (HQ store)	The Party Source	Binny's
Absinthe	2	17	12	11	18
American Whiskey	19	20	20	37	51
Aquavit	1	4	2	3	3
Armagnac	2	19	7	4	89
Bourbon	39	69	81	126	112
Brandy	14	23	40	36	51
Brandy - Flavored	5	3	12	17	11
Cachaça	3	9	8	7	9
Calvados	3	14	6	6	29
Canadian Whisky	19	5	19	30	28
Cognac	22	47	52	67	192
Eaux de Vie	10	25	26	30	48
Gin	27	54	51	51	54
Grappa	8	21	19	22	36
Irish Whiskey	17	29	30	30	41
Liqueurs - Amari/Bitters	9	21	10	14	17
Liqueurs - Cream	14	11	31	37	29
Liqueurs - Fruit	48	76	112	138	147
Liqueurs - Herbal	11	16	15	21	23
Liqueurs - Nut	9	10	14	23	18
Liqueurs - Other	48	52	82	120	109
Liqueurs - Pastis/Anise	11	19	18	21	27
Mezcal/Other Agave	2	28	7	13	28
Other Whiskey	1	10	6	8	17
Pisco	1	9	6	5	13
Rum	36	91	68	97	126
Rum - Flavored	46	22	51	78	50
Rye Whiskey	5	19	13	12	25
Scotch - Blends	28	37	59	58	79
Scotch - Single Malt	37	156	132	237	571
Shochu/Soju	3	31	3	11	1
Tequila	66	82	196	149	189
Vodka	61	83	104	113	104
Vodka/Gin - Flavored	118	66	138	233	149
Whiskey - Flavored	6	3	8	19	13
Whiskey - Unaged	3	17	5	17	23
Total	754	1218	1463	1901	2530

This is a snapshot as of June 30th, so the recent delistings aren't taken into account. Items from the PLCB online store are excluded in fairness to the other vendors, whose listings reflect items available on a store shelf for immediate purchase.

Looking at the numbers, it is fairly clear that criticisms of Pennsylvania's spirits selection are well-founded. Astor Wines & Spirits, a Manhattan retailer with as much retail floor space as one of our Premium Collection stores, stocks a variety of spirits half again greater than what is available across our entire state. Under a larger roof, The Party Source near Cincinnati carries a selection 2.5 times the size of ours. The 24-store Binny's chain in Chicago outdoes everyone with an enormous range of more than 2500 different spirits.

For enthusiasts who focus on certain categories, the discrepancy is even greater. There are only 37 bottlings of single-malt scotch in Pennsylvania, compared with well over 100 at every other retailer and an awe-inspiring 571 options (really!) at Binny's. Cognac drinkers must contend with a mere 22 selections, rather than 50+. Niche categories such as grappa and absinthe suffer further still.

The product management team at the PLCB is well aware of their standing in comparison to private stores, and about 18 months ago they began building a specialty spirits program focused around the online store as well as 32 designated specialty spirits stores which carry an expanded range of products. (Regular readers are aware that I've provided input to this program from the beginning.) In the course of 12 months, the in-store portfolio brought in about 70 new products and the online store nearly tripled its spirits selection.

Given enough time, can the PLCB reach the in-store product selection offered by the private retailers above? It doesn't seem likely, due to the PLCB's long-standing political obligation to make its products available to all populated areas of the state in a non-discriminatory fashion. The PLCB would need to expend more than $10 million on inventory and expanded retail floor space in dozens of locations around the state to stock product that, by and large, will simply collect dust for years.

Lacking a legislative mandate to relax this doctrine of equal treatment, our most likely path to a vastly expanded product range is through mail order. The PLCB's online store is making a sincere effort to pump up its selection, and it is possible that a change in state law may permit the shipping of spirits to Pennsylvanians from out-of-state private retailers.

On the other hand, if the legislature forges ahead with HB11, it is my sincere hope that the bill is amended to reduce wholesaler license fees to more reasonable levels. Only if that happens will privatization have a chance of bringing improvement to our product selection.

This article is one of a series on privatizing wine and spirits sales in Pennsylvania. The full list of articles may be found on the Privatization Index Page.

Unless you live under a rock, you're probably aware that Representative Turzai held a press event yesterday afternoon to unveil his privatization legislation, House Bill 11. Oddly enough, he didn't actually make available the text of the bill, he just made a speech and handed out a "fact sheet" to the press. This fact sheet, along with a few other documents, can be found on Representative Turzai's website.

Fortunately, the Commonweath Foundation posted the full text of the bill on their blog. I've copied it here to make sure it remains available. (How's that for transparency? Legislation that completely rewrites the laws governing a nearly $2 billion retail market and a $1 billion wholesale market was provided to a right-wing lobbying group aligned with the GOP, but not to the press or the public. But I digress...) [Edit 7/28: Nathan Benefield of the Commonwealth Foundation offered a clarification of his organization's mission in the comments below.]

While I haven't yet had time to review the entire 100-page bill, I've put together some initial thoughts on the information presented in the fact sheets.

(An aside to the Twitteratti: can we standardize on #HB11 as the hashtag for privatization discussion? It's way shorter than #privatizeliquor.)

The good news

A number of important questions have been answered. First, contrary to early reports, there have been substantial changes from last year's privatization bill. GOP leadership appears to have taken heed of the advice offered to them by small producers, specialty distributors, consumer advocates and wine enthusiasts. Gone is the ridiculous system of regional wholesaler duopolies. Off-premise retail licenses have been broken into two classes: one class for stores with more than 15,000 square feet, capped at 750 licenses; and one class for smaller stores, capped at 500 licenses. There will be ownership quotas which will limit the number of licenses that can be purchased by a single owner, with the explicit intention of allowing most of the small-store licenses to be purchased by independent operators. Enforcement and compliance requirements have been strengthened. All in all, a great number of improvements have been made.

Unfortunately there are still some major problems with Turzai's proposed legislation that could harm consumers.

Issue #1: Wholesaler licenses

Representative Turzai seeks to move Pennsylvania to the standard three-tier model employed by most other license states. This system was invented after Prohibition was repealed as a way to avoid the abuses perpetrated by "tied houses"—saloons owned or financed by brewers—by requiring a middleman between producers and retailers. There are rising concerns that the three-tier model hands too much power to the wholesalers sitting in the middle, but it's a well-established system that everyone in the industry is familiar with. It's undoubtedly an improvement over the bizarre four-tier model proposed in last year's privatization bill.

By my reading of the fact sheet and the bill, Turzai intends to sell wholesaler licenses to whomever wants them, with no limit on the overall number of licenses. However, there is a catch: licenses will come with a strict list of which brands and products may be wholesaled by the licensee. Brand holders must appoint one wholesaler to exclusively represent their line in Pennsylvania, and then that wholesaler must pay the state a fee for the right to distribute that product line.

The concept doesn't sound too onerous, until you find out how much the fees will be. HB11 says, "the department shall impose a one-time license fee [...] in an amount equal to the blended brand valuation for each brand of liquor authorized by the license multiplied by the wholesale acquisition factor." Um...what? Let's consult the definitions section: "blended brand valuation" is "the sum of the wholesale profit margin on each product of a brand," where the "wholesale profit margin" is defined to be "20% of the total of costs of goods sold of the product over the most recent 12-month period for which information is available." The "wholesale acquisition factor" is "a factor of 2.5."

There we find the justification for this odd licensing system—Turzai is pegging the anticipated income from the one-time sale of wholesale licenses as a fixed percentage of the PLCB's cost of goods sold. This is a much more reliable number for his "windfall" than trying to estimate the proceeds from a license auction.

Let's do the math. A 20% wholesale mark-up is awfully optimistic—most PA distributors work with something more like 10% or 15%. But if that's what the bill says, we'll roll with it. A 20% mark-up corresponds to 17% of sales revenue, which multiplied by the "wholesale acquisition factor" of 2.5 gives 42% of annual sales revenue. Wow.

Turzai wants to charge existing distributors a fee equal to 42% of their annual sales revenue for the privilege of continuing to sell the same products they're already selling.

That's an insane number. Attempting to suck $420 million in one-time fees out of a $1 billion industry is going to cause a lot of hardship for distributors large and small.

What will be the effect on consumers? It's likely that product selection will be reduced, as distributors prioritize their available capital to buy licenses for only their most popular and reliably profitable products. It's unavoidable that prices will increase—those huge licensing fees will need to be paid back to whoever put up the money to pay them.

The impact of these initial fees will be bad enough, but what about new brands that aren't in the state yet? The license fee will be calculated on "the blended brand valuation for the brand from a comparable jurisdiction." It's not clear what a "comparable jurisdiction" would be, but let's pick Illinois, as it has about the same population as Pennsylvania. If a product is selling 5,000 cases annually in Illinois with a $200/case wholesale price, a PA distributor would need to pay the state an up-front fee of $420,000 just for the right to add that product to their portfolio. Keep in mind that this could be a product with virtually no recognition among Pennsylvania consumers and the distributor would be building their sales up from zero. That's a hell of a lot of money to gamble on a new brand.

Net effect? The only new products we'll ever see are "guaranteed blockbusters," where the distributor is strongly confident in the product's market success. It will be prohibitively expensive (and probably bureaucratically impossible) for distributors to act on customer requests to bring in niche products. (A possible secondary effect here is that independent operators are discouraged from opening specialty wine shops if the selection from wholesalers will be so strictly limited.)

That does it for up-front costs...let's look at ongoing taxes.

Issue #2: The revenue question

In today's budget climate, no privatization proposal could succeed unless it ensured state revenue flows from wine and spirits sales would continue at the same or higher levels. Last week's post addressed this issue, showing that an unusually high excise tax would need to be imposed on private retailers to maintain the existing revenue from the 18% liquor tax. The requisite excise tax rates would be far beyond those of our neighboring states, potentially creating a barrier to competitive pricing and encouraging cross-border shopping.

I laid out four options for Representative Turzai, proposing to shift some of the tax burden off certain market segments to encourage competitive pricing within those segments, but he ended up choosing an option that didn't appear in my list:

5. Replace the liquor tax with a gallonage tax that places a 38% greater tax burden on wine and spirits sales. Assert, without explanation, that privatization will result in product pricing competitive with neighboring states where excise tax rates are 90% lower.
   

It reads like a joke, but it's not. HB11 specifies an excise tax on wine of $8.25 to $8.75 per gallon, depending on alcohol content, and a special rate of $9/gallon on sparkling wine. To put that into perspective, the national median excise tax rate for wine is $0.67 per gallon. Delaware, our neighbor with the highest rate, taxes wine at $0.97 per gallon. The "replacement rate", which would maintain the same level of tax revenue from wine that the state currently receives under the 18% liquor tax, is only $5.08 per gallon.

Spirits will be taxed at $11 to $12 per gallon. Again, for comparison, the national median is $3.75 and the replacement rate is $9.60.

For a rough comparison, if Turzai's taxes had been in effect during the 12 month period of my original study, the state would have received approximately $383,283,000 in tax revenue instead of the $277,445,000 it received under the 18% liquor tax—an overall increase of 38%. I have to wonder whether Turzai's proposed excise tax rates violate Governor Corbett's pledge to not raise taxes.

Let's take a look at how the proposed new wine tax compares to the 18% liquor tax, as well as the tax rates of one of our neighbors:

	Retail price	18% tax	Turzai tax	NJ tax
Arbor Mist (750 ML)	4.99	0.76	1.63	0.17
Franzia (5 L)	12.49	1.91	10.90	1.16
Korbel Brut (1.5 L)	14.99	2.29	3.57	0.35
M&R Asti Spumante (1.5 L)	24.99	3.81	3.57	0.35
Stag's Leap Merlot (750 ML)	43.99	6.71	1.63	0.17

The overall effect is to shift much of the tax burden from premium products to value-priced products. 750 ML bottles of wine priced at $10.72 or higher would enjoy a reduction in tax while less expensive wine would see a tax increase. The tax on Stag's Leap Merlot would be reduced by a fantastic 75%. Five-liter boxes of Franzia would incur a mind-boggling six-fold tax hike to $10.90 per box—nearly the entire retail price of the unit.

The question becomes even more pressing: how are retailers in border markets supposed to compete with retailers in other states in the face of this huge tax difference? Won't this simply worsen the "border bleed" problem we have now?

The coming debate

Obviously, HB11 has a long road to travel before reaching a vote. The House is in recess until September, so the bill can't even be formally introduced until then. Once the bill has been debated and amended in the House and its various committees, a similar measure must be introduced in the Senate, where enthusiasm for privatization is weaker. Only after matching bills have been passed in both chambers will Governor Corbett have the opportunity to sign them into law.

I expect to see some fireworks over the summer, as the state store workers unions and temperance groups such as MADD blast away at the deplorable notion of putting liquor sales in the hands of the greedy and irresponsible private sector. Representative Taylor, chair of the House Liquor Control Committee, intends to hold hearings on HB11 over the summer as well, which is where I anticipate we'll get the best sense of what lawmakers think of the current text.

As HB11 stands now, I'll be blunt: I honestly can't see how Representative Turzai expects the private market to provide regionally-competitive prices on wine and spirits given the massive taxes and fees he expects to extract from the industry. Heavy taxation takes its toll on every aspect of the supply chain—not only do prices remain consistently high, but retailers cut costs any way they can: selection is slashed to the bone, customer service is sacrificed to keep labor costs down, and inventory is pared to a minimum causing less popular items to be frequently out of stock. It's likely that many of the 500 "independent shop" licenses that Turzai auctions off will not go to specialty wine boutiques, but to high-volume discounters that will resemble a typical mass-market beer distributor, with Bacardi, Cuervo and Yellowtail cases stacked floor-to-ceiling on industrial metal shelving.

What are the chances of HB11 being signed into law within the next year? It'll be a steep climb, but not insurmountable. Privatization is widely backed by Republican lawmakers, including Governor Corbett, who were able to pass this year's budget in the face of one massive protest demonstration after another, and with virtually zero input from the Democrats. (Not only were the Dems not consulted about HB11, they weren't even provided a copy.)

There is a lot to like about HB11, but unless the free market advocates in the legislature can bring the taxes and license fees down to a reasonable level, the existing state stores are likely to give Pennsylvanians a better deal.


Updated 7/18 to boldface certain text for emphasis. None of the wording was changed.

This article is one of a series on privatizing wine and spirits sales in Pennsylvania. The full list of articles may be found on the Privatization Index Page.

Representative Turzai has run out of time in the spring session to introduce his privatization bill, but Representative Taylor assures us that "privatization has not lost its steam." My contribution to the debate today is a comparative report on Pennsylvania's 18% liquor tax (the "Johnstown Flood Tax") versus the wine and spirits excise taxes of neighboring license states. This isn't as straightforward as it sounds, because most license states tax wine and spirits based on quantity (like PA does with beer) rather than retail price.

Download the report (PDF)

I encourage you to read the whole report, but I'll summarize some of the results here.

• During the 12-month period from February 2010 to January 2011, the PLCB sold 23,547,201 gallons of wine and 16,422,462 gallons of spirits. Approximately $119,718,000 in liquor tax on wine and $157,727,000 in liquor tax on spirits were collected. This is an average of $5.08 per gallon of wine and $9.60 per gallon of spirits.
  
• This is drastically higher than the gallonage excise taxes other states levy. The US median tax rates are $0.67 per gallon of wine and $3.75 per gallon of spirits. Some of our neighbors are even lower: Maryland's rates are $0.40 and $1.50 respectively.
• Because the liquor tax is based on value rather than quantity, higher priced products are disproportionately affected.  A $43.99 bottle of Stag's Leap Merlot includes $6.71 in PA liquor tax--that's 117 times the tax imposed on that same product in New York.
• Conversely, PA gives a tax advantage to value-priced spirits. A $13.79 jug of Nikolai Vodka incurs $2.10 in tax here but $2.98 in NY. The effect is to punish suppliers who try to bring in premium-priced products and reward those who bring in low-end products.
  

Why is this relevant to privatization? In a nutshell: large excise tax rate differences between neighboring tax jurisdictions reduce the competitiveness of retailers on the high-tax side and encourage cross-border shopping. State-wide monopolies don't need to care much about this, but private businesses with one or a handful of stores certainly do.

Put another way: wouldn't you think twice about opening a wine shop in Philadelphia knowing that your competitors across the river enjoy an excise tax burden that was less than a fifth of yours? (Remember that your liquor license probably would cost significantly more than theirs did, too.) If you were intent on serving the Philly market, wouldn't it make a lot more sense just to set up shop in New Jersey? Why pay the state $2 on each $13 magnum you sell when you could pay 35 cents instead?

As Representative Turzai draws up his privatization bill, he basically has four options:

1. Keep the existing liquor tax, so the state collects 15.25% of the retail value of all wine and spirits sold. Private retailers in border markets will find that they can only compete on price on low-end products. Mid-range and premium products will be sold almost exclusively in stores where the convenience factor is more important than price, such as grocery stores and drug stores. (If you thought your local liquor store was like shopping at CVS, wait until CVS is your local liquor store.)
2. Replace the liquor tax with gallonage taxes that are sufficiently high to bring in the same revenue--approximately $5.08 per gallon for wine and $9.60 per gallon for spirits. Boutique wine and spirits shops will be able to flourish, as a $1 to $2 tax per 750 ML isn't a deal-killer on $20+ products. Unfortunately, shoppers in the lowest price segment will be forced to pay through the nose. Value spirits in half-gallon sizes will be slapped with a $4.44 per bottle tax--about double the tax levied on these products today--and five-liter boxes of wine will have their tax more than tripled to $6.71 per unit. The stream of Pennsylvanians leaving the state to shop at discount liquor stores will turn into a flood.
   
3. Replace the liquor tax with a value-based or gallonage tax sufficiently low that retailers in border markets can compete with out-of-state retailers in all price segments. Argue that the resulting loss of hundreds of millions of dollars in state revenue is an acceptable trade-off for the benefits that privatizing liquor sales would bring.
4. Same as option 3, but argue that increased alcohol purchasing under a privatized system (by a factor of two or three) will compensate for the reduced tax rates.
   

The most palatable solution is probably a combination of all of these: levy both a base gallonage tax and a value-based tax assessed at the wholesale level, and argue that reduced cross-border shopping will probably increase overall in-state purchasing by a few percentage points. The necessary rates for such a tax scheme wouldn't be too hard to calculate, but let's just sit tight and see what Representative Turzai has in store.

This article is one of a series on privatizing wine and spirits sales in Pennsylvania. The full list of articles may be found on the Privatization Index Page.

As the debate rages over whether to privatize the Pennsylvania Liquor Control Board's wine and spirits retail system, advocates on each side of the argument have quoted wildly different numbers regarding the amount of money that the system earns for the state. Wendell Young, the president of one of the unions representing state store employees, says that "selling the Wine and Spirits stores can't replace the nearly $500 million a year they generate for Pennsylvania taxpayers,"1 but the Commonwealth Foundation, a conservative think-tank, says "the state store's annual 'profit' is only around $90 million."2 The PLCB itself says that they earned a profit of $105 million last year, as well as collecting $376 million in taxes.3

All of these numbers are accurate, more or less, but each is misleading in its own way.

Fortunately, we can clarify the situation using data readily available from the PLCB in their annual financial reports.4 In particular, their income statement (also known as a Profit & Loss statement) spells out the PLCB's revenue and expenses in sufficient detail to answer our questions. But first, we need to understand how the state stores set prices for the products they sell.

The Retail Price Formula5

Like private-sector retailers, the PLCB negotiates prices with its wholesalers and then marks up the wholesale price of each item to cover overhead expenses and profit. This mark-up, dictated by PLCB regulations, contains two components: a variable mark-up equal to 30% of the wholesale price, and a fixed mark-up based on the type and size of the product. (This fixed mark-up is variously called the handling fee, the operational cost, or the logistics, transportation & merchandise factor (LTMF).)

On top of the marked-up price, the state assesses an 18% liquor tax.6 This is sometimes referred to as the "Johnstown Flood Tax" or "Emergency Flood Tax," but the flood is distant history. Now it serves as Pennsylvania's liquor excise tax, similar to the excise tax that nearly all states levy on booze. The 18% liquor tax is imposed by state law and goes directly to the state's General Fund, exactly like sales tax, except that liquor tax is included in the shelf price of wine and spirits instead of being added on at the time of sale.

Finally, the price with liquor tax is rounded up by five to fourteen cents so that the final digit of the price is a nine. This is purely for cosmetic reasons.

Let's see this in action, using Old Crow Reserve Bourbon as an example.

Wholesale price7	5.50
30% wholesale markup	+ 1.65
Handling fee (LTMF)	+ 1.20
Price after PLCB markups	8.35
18% Liquor Tax	+ 1.50
Total price with markup and tax	9.85
Final price after rounding up	$9.99

As with any non-essential retail purchase, the state levies a 6% sales tax on the retail price, and Allegheny and Philadelphia counties levy a 1% sales tax. This would bring the total amount charged for Old Crow Reserve to $10.59 or $10.69.

From Sales Revenue to State Revenue

With an understanding of what portion of the retail price is taxes, what portion is retailer markup, and what portion is wholesale cost (known in accounting parlance as "cost of goods sold"), we can look at the financial data from the PLCB retail system. The last three fiscal years8 are summarized below:

	FY 09-10	FY 08-09	FY 07-08
State and local sales tax collected	112,085,291	109,490,825	102,215,022
Liquor tax collected	271,015,028	266,332,120	250,995,726
Cost of goods sold	1,058,769,004	1,014,032,177	939,780,873
Operating expenses	381,962,459	367,121,231	343,285,606
Operating income9	70,658,946	110,584,357	130,198,907
Gross sales revenue (total of all lines above)	1,894,490,728	1,867,560,711	1,766,476,134
Transferred to General Fund	105,000,000	125,000,000	80,000,000

Operating expenses include all day-to-day overhead expenses necessary to run the state stores and the associated warehousing and logistics system, including labor, rent, utilities, office supplies, etc. Operating income is the sales revenue remaining after paying suppliers and overhead expenses.

In the table above, the state's General Fund receives three revenue steams from the PLCB: sales tax collected, liquor tax collected, and the final "Transferred to General Fund" line. The taxes are imposed by state law and the stores simply act as tax collectors, just like private retailers do when collecting sales tax. The "Transferred to General Fund" line represents net profit, but it is the net profit from all PLCB operations, not just the state stores.

This bears repeating: the headline number used by the PLCB as the profit they contribute to the General Fund includes revenue from both the retail system and non-retail sources such as certain licensing fees and investment income, less expenses like licensing administration, legal work, education and enforcement programs, etc. While the bulk of this profit does accrue from the retail system, this number should not be used in analysis of store operations.

The most accurate measure of state store profit is the system's operating income, which ranged from $71 million to $130 million over the last three years. During that time, the stores also collected between $353 million and $383 million in sales tax and liquor tax as required by state law, for total net revenue generation of $454 million to $486 million.

Post-Privatization

Now we're prepared to ask the big question: how would privatizing liquor sales affect these revenue sources?

• Sales tax receipts from off-premise sales would remain unchanged, provided Pennsylvanians continued to spend the same amount of money on wine and spirits after privatization. Receipts from on-premise sales would increase or decrease depending on whether poured drinks would be taxed at the final point of sale under a private system. (Currently bars and restaurants pay sales tax on the liquor they purchase from state stores, and no sales tax is assessed on the per-drink price charged to patrons.)
  
• Assuming bars and restaurants would be permitted to buy wine and spirits directly from privately-owned wholesalers, the existing 18% liquor tax would need to be replaced with an excise tax applied at the wholesale level. Until the details of this proposed tax change are published, liquor tax revenue from private sales cannot be estimated.
• Operating income would need to be replaced with a combination of taxes and fees totalling 4% - 8% of the retail value of wine and spirits sold (or 7% - 14% of sales at the wholesale level). Part or all of this revenue might be accounted for through liquor license fees, as yet undetermined, and existing business taxes that the state-owned stores are exempt from but private liquor stores would be required to pay.
• A portion of the tax and fee revenue from private stores would need to be set aside to pay for additional license administration and liquor code enforcement expenses which are not incurred under the present system.10

Clearly, little can be said about state revenue under a privately-owned system without having a specific privatization proposal in front of us.

We can, however, look to our neighbors who currently have private liquor sales (known as "license" states) to see how their alcohol tax revenues compare to ours, as a guide to how revenue from our 18% liquor tax might be replaced in a privatized system.

Tax Revenues in Other States

License states impose an alcohol excise tax at the wholesale level, assessed as a gallonage tax based on the total volume of beer, wine or spirits sold. While Pennsylvania's wine and spirits sales are taxed under the 18% liquor tax, beer is taxed at a gallonage rate.

Combined alcohol excise tax revenues from beer, wine and spirits for Pennsylvania and several license states in the region are as follows:11

	FY 08-09	FY 07-08	FY 06-07
Pennsylvania	292,302,120	277,284,726	264,549,608
New York	206,452,712	205,252,942	194,221,559
New Jersey	105,487,892	104,101,187	103,293,428
Delaware	15,500,000	14,700,000	14,800,000
Maryland	29,874,000	29,168,000	28,966,000
Massachusetts	71,850,000	71,169,000	70,958,000

Pennsylvania easily tops the list in alcohol excise tax revenue collected. Notably, our revenue is significantly greater than New York's, despite New York having a population roughly 50% larger.

To more clearly illustrate the differences between states, we can divide alcohol tax revenue by total ethanol (pure alcohol) consumed, using state-by-state alcohol consumption rates published by the National Institute on Alcohol Abuse and Alcoholism.12 We obtain an estimate of the consumption rate during Fiscal Year 06-07 by averaging the consumption rates for calendar years 2006 and 2007, the most recent years for which data has been published.

	FY 06-07 alcohol excise tax revenue	Est. ethanol consumption (gallons)	Tax revenue per gallon of ethanol
Pennsylvania	264,549,608	22,072,000	11.99
New York	194,221,559	32,391,000	6.00
New Jersey	103,293,428	16,481,000	6.27
Delaware	14,800,000	2,287,000	6.47
Maryland	28,966,000	10,087,000	2.87
Massachusetts	70,958,000	13,474,000	5.27

Pennsylvania clearly stands out here. While most of the other states impose an excise tax of approximately $6 per gallon of ethanol consumed, Pennsylvania's tax burden is nearly double that.

Because all states except Utah tax beer at a gallonage rate, we can estimate the portion of revenue attributable to beer by multiplying the NIAAA beer consumption rate by each state's beer tax rate.13 Subtracting beer consumption and the estimated beer tax revenue from the overall totals gives a rough estimate of the tax revenue resulting from wine and spirits:

	Tax rev. per gal. of ethanol (beer only)14	Tax rev. per gal. of ethanol (wine & spirits)
Pennsylvania	1.78	28.42
New York	3.11	8.31
New Jersey	2.67	8.69
Delaware	3.56	8.68
Maryland	2.00	3.62
Massachusetts	2.44	7.31

Pennsylvania has one of the lowest beer tax rates in the nation (behind only Missouri and Wisconsin), but the excise tax burden on wine and spirits is enormous. Per drink, we pay more than three times the state tax of New Jersey or Delaware, and almost eight times the state tax of Maryland.

If excise tax revenues are to remain unchanged post-privatization, potential bidders for wholesale and retail liquor licenses must take into account the unusually large tax burden that would be imposed on their products. This would likely translate into a competitive disadvantage for retailers located near the state border, where customers have the option to shop in neighboring states with lower liquor taxes.

Future Work

A more thorough treatment of excise taxes will be published here in a forthcoming study, including revenue projections of various excise tax models using detailed sales data from the state stores.

Once a complete privatization proposal is published in the legislature, further analysis can be made of its effects on government revenue.

Footnotes and References

1. Young, Wendell. "State stores won't fix the budget." Opinion. Philadelphia Inquirer, 5 Jan 2011.
2. Currie, Katrina, and Nathan Benefield. "Liquor Store Union Distorts Facts to Skew Poll." Commonwealth Foundation. 10 Jan 2011.
3. Guerriero, John. "State discontinuing 400 wine and spirit products amid movement to privatize." Erie Times-News, 23 Feb 2011.
4. PLCB financial statements can be found on the Facts and Figures section of their website.
5. Price formula provided by Stacey Witalec, Director of External Affairs, PLCB. Personal correspondence, 18 Feb 2011.
6. More accurately, the 18% markup is an estimate of the tax liability generated by the sale of the item. The actual liquor tax remitted by the PLCB to the General Fund is calculated by dividing gross liquor sales by six and five-ninths.
7. The wholesale price of Old Crow Reserve includes $2.30 in federal excise tax.
8. Pennsylvania's fiscal year runs from July 1st through June 30th.
9. The recent trend of decreasing operating income is due to higher pension and worker's compensation costs. This trend will be corrected by an LTMF rate increase. ("PLCB again proves need to privatize." Editorial. Scranton Times-Tribune, 28 Sep 2010.)
10. The Bureau of Liquor Control Enforcement does not currently perform enforcement checks at state stores as they are not considered licensed establishments. (Boehm, Eric. "State Liquor Stores Face No Scrutiny From State Police." Pennsylvania Independent, 4 Mar 2011.)
11. State tax revenues were collected from the following sources:
    • Pennsylvania -- "Monthly Revenue Reports." Pennsylvania Department of Revenue.
    • New York -- "Fiscal Year Tax Collections." New York State Department of Taxation and Finance.
    • New Jersey -- "Division of Taxation Annual Reports." New Jersey Department of the Treasury.
    • Delaware -- "2010 Fiscal Notebook." Delaware Department of Finance.
    • Maryland -- "Alcohol Tax Annual Report Archive." Comptroller of Maryland.
    • Massachusetts -- "DOR Annual Reports." Massachusetts Department of Revenue.
12. "Volume beverage and ethanol consumption for States, census regions, and the United States, 1970-2007." National Institute on Alcohol Abuse and Alcoholism. Oct 2009.
13. "State Tax Rates on Beer (January 1, 2010)." Federation of Tax Administrators. 7 Apr 2010.
14. Calculated by dividing gallonage tax rate by NIAAA standard 4.5% ABV for beer.

This article is one of a series on privatizing wine and spirits sales in Pennsylvania. The full list of articles may be found on the Privatization Index Page.

Until now this blog has been silent on public policy. Although many wine and spirits consumers in Pennsylvania hold a low opinion of our government-owned liquor stores for various reasons, I have always left the diatribes to others and accepted the fact that political inertia was firmly against private-sector liquor sales. Instead I've tried to help cocktail and spirits enthusiasts and professionals get the most out of the PLCB retail system, through my blog and in my informal role as a volunteer advisor to the product selection team in Harrisburg.

Now there is a very real possibility that a substantial revision of state liquor code will result in the privatization of the existing government-owned retail system and the licensing of additional private businesses to sell wine and spirits for off-premise consumption. This would likely have a radical effect on the prices, selection and availability of spirits products in Pennsylvania.

To be clear: I have never been nor will I ever be in favor of government-run liquor sales. As with the Pennsylvania Lottery, I am philosophically opposed to the government promoting any vice, be it gambling, drinking, smoking, or whatever. I have no inclination to prohibit private citizens from engaging in these activities at their own risk and expense, but I believe the government's role should be to monitor and regulate, not encourage. (Imagine if tobacco products were only sold in state stores. Would we have government-sponsored billboards suggesting a carton of Camels as a Mother's Day present?)

From a more pragmatic perspective, it is clear that private liquor retailers in other parts of the country offer a wider range of customer experiences than our state stores. Pennsylvania law imposes strict constraints on the PLCB in terms of pricing, product selection, employee hiring and training, etc, which has resulted in 650 clones of a mere three or four different "model" stores. I expect that privatization would open the door for individual stores to differentiate themselves based on these factors to a much greater extent than is possible now.

On the other hand, Pennsylvania's state stores are, perhaps, the best-run government liquor stores in the US. They consistently turn over a profit, and despite public perception, the PLCB makes an effort to respond to the demands of its customers. There is no overriding mandate to privatize at all costs, and indeed, I believe it would be politically infeasible to enact any privatization legislation that would negatively impact Pennsylvania wine and spirits consumers or, more crucially, government revenue. In addition, many common complaints about the state stores might be addressed by relaxing the statutory constraints the PLCB must operate under, thereby improving the customer experience without bearing the risks that privatization might entail.

As a starting point for evaluating the privatization legislation that is expected to be introduced in the House, as well as any competing legislation that seeks to improve the existing stores, I will be publishing several reports and analyses on the PLCB retail system as it stands now, especially in comparison to other states that already have private-sector liquor sales.

Future posts will look at the following questions:

• How much revenue do the stores generate for the state, and how does it compare to other states' revenues from liquor sales?
• What tax structure would be necessary to impose on private retailers to replace revenue currently generated by state stores?
• Do the state stores achieve their goal of competitive pricing, or is public sentiment correct that prices are lower in neighboring states?
• How does the selection of products in state stores compare to private retailers in other states?

This will not be a comprehensive analysis of public policy, however. My research will steer clear of the following politically- and emotionally-loaded topics about which much has been said already:

• Public safety and enforcement issues, such as underage drinking, drunk driving, alcohol-related injuries, etc
• Quality of customer service
• Public vs. private sector employee wages and benefits

As each new article is posted, it will be added to the Privatization Index Page.

In the interest of stimulating productive public debate, I will attempt to make my writings about policy issues as neutral as possible. I encourage independent interpretation of my results, and will gladly work with any party interested in recreating or extending my analyses. I can be reached privately at plcbusersgroup@gmail.com.

Members of the media who are not already on my mailing list and wish to have early access to my formal reports should email me as well.