Craft Brewers Need to Watch This Texas Dispute Over Getting Money From Wholesalers For Selling Distribution Rights – State Files Opening Brief in Appeal of Challenge to Texas Brewer’s Ability to Sell Their Distribution Rights for Payment

It used to be that brewers signed with wholesalers and gave up their self-distribution rights and didn’t get any money for them.  Then some enterprising brewers realized that wholesalers sue each other and brewers for the value of those rights so the rights must have value.  They started asking for payment when they signed with wholesalers.  Some brewers knew about this and got paid, some didn’t and are still sour that they didn’t get paid for their rights.  Wholesalers are now bitter about it because they naturally don’t want to pay for something they used to get for free and are using faulty logic coupled with state laws and regulations to try and stop brewers from getting paid for what wholesalers would demand money for – distribution rights.  A case unfolding in Texas shows all the poorly reasoned arguments those craft brewers in other states may soon have to face and defeat in order to have fair play when it comes to the getting the value of their distribution rights.

In Texas small brewers recently won a constitutional challenge to a 2013 Texas statute that prohibits brewers from “accept[ing] payment in exchange to an agreement setting forth territorial rights.”   Tex. Al. Bev. Section 102.75(a)(7).  In case you missed our piece on it a few months ago, you can read about the original decision here.  A copy of the original trial court’s order invalidating the prohibition that keeps brewers from receiving fair market value for their distribution rights and the goodwill they create through self-distribution (the same rights that are saleable and actionable when distributors sell them to each other or when brewers try to revoke them) can be found here.

The brewers had challenged the law both as a due process violation and as an unconstitutional economic restriction under the Texas constitution.  They were granted summary judgment on the economic argument, and denied it on the due process claims.  The state of Texas appealed the decision.  For some reason, the brewers chose not to cross-appeal the due process argument’s denial.  The opening brief went live on the Texas court of appeals’ website yesterday and you can find a copy here.

The appeal is worth following as a substantial amount of these arguments will play themselves out in the handful of other states that have similar statutory restrictions (lookin’ at you Kentucky) and the lazy reasoning advanced by the state will be used by other states and distributors who don’t want to pay in states that don’t even have these restrictions to try and prop up their arguments to state regulators that payment is improper.  (Again, all despite the fact that they believe their own rights have value and can be sold or sued over when they’re lost.)

This fight means quite a bit for small brewers who develop goodwill and distribution networks and retail accounts through self-distribution and would find that they get no value for those relationships and that goodwill when they sign with a distributor if they aren’t paid for them.  These restrictions make absolutely no sense once you understand and know that a distributor can sell those same rights or sue when they’re lost and get paid for the fair market value of those rights. To say something is an economic value to one of those parties but not the other when it’s the exact same thing is ridiculous.  Almost as ridiculous as the arguments advanced by the state in its brief.

Assuming we can all agree that we no longer live in the 1920s and that people don’t have two-martini breakfasts (society doesn’t condone that behavior anymore), temperance loses all gusto as a justification for maintaining the tied-house system.  A system which functions just fine alongside additional bars that aren’t tied houses in other markets around the globe (looking at you U.K.).  But that’s just the beginning of the problems with the state’s arguments in favor of keeping their thumb on small brewers in favor of distributors who don’t want to pay for something they used to get for free.  Interestingly, apart from pointing to non-substantiated texts and articles decrying problems that existed one hundred years ago (yes, this brief cites to the non-scientific “just-so” text Toward Liquor Control that has continually been proffered as support for countless improper arguments about maintaining heavy-handed state regulation and the three-tiered system) there isn’t any evidence offered by the state in arguing that the legislature may have had any one of several rationales for passing the ban on payments for distribution rights.  In fact, the state even prides itself on the fact that Texas precedent has apparently lauded an ignorant legislature (I’ll get to that in a second).  The arguments in no particular order:

  • The prohibition supports the “three-tiered system” – really?  How?  A self-referential argument at best, nothing in the state’s assertions shows how keeping brewers from receiving payment for something they’ve created upholds a system and again, while the system isn’t (yet) on trial, the supporting justification that gets advanced is “well, gosh, we had a bunch of problems with booze back before radio and TV and advertising and antitrust laws when people had gin for breakfast and one of the things that happened then was that we allowed tied-houses, so tied-houses must be the reason everyone drank and there was lawlessness…”  You get the point.  Al Capone might rise from the grave!  These tired arguments from nearly 100 year-old books written as puff pieces to justify regulation by the state do nothing more than rehash the unfounded non-scientific assertions used by pseudo-scientists opposed to drinking from a century ago. You would think that after awhile someone would finally recognize these “supporting texts” have absolutely no proven support and start exposing the naked emperor for having no proof whatsoever.
  • The other “just so” arguments the state makes such as “well, the legislature might have meant this” or “take our word for it” are the same improper reasonings authorities always point to in trying to justify action – akin to saying “there’s a security threat, so we can pass this ban” – without proving the threat, or saying “these Pentagon Papers will expose national security secrets” without proving that the papers actually do expose those secrets.  Courts need to start holding petty despot state regulators to the same standards.  No regulation or control should be taken as true until proven and tested and shown to achieve the goals it was enacted for while doing as little collateral damage to other rights as possible.  
  • A “justification” stated in a preamble oughtn’t be taken at face value.  Just because someone says their reasons for an action are pure, doesn’t mean they are or that you need to believe them and not look deeper.  In fact the state argues in its brief in a similar fashion; talking out two sides of its mouth.  The brief opens by reiterating that the bill which turned the restriction on the sale of rights into a law was nothing more than the hard-fought battle between two lobbying groups with economic interests, but then goes on to claim that the provision is somehow necessary for public policy and was created not on account of economic interests lobbying for rights, but because public health concerns were the root of the statute. You can’t have it both ways. You either admit that this is solely and attempt by two different portions of this artificial economic system to hold onto their pieces of the pie or you say our goal is to keep people from drinking. What’s funny is that the state apparently understands what a conclusory argument is because they lob that accusation at the brewers in this case for lacking support in claiming that the statute is politically motivated (not for public health), even though the state made the same argument and point in its opening, admitting that the statute is 100% a political creation.
  • The state advances the argument that the payment for distribution rights would create a “perception” of economic interest between brewers and wholesalers, sadly a perception is not enough to legislate against some behavior as if it was an actuality.  More to the point, a “perception” should lead to any reasonable person or a court saying “prove it” or creating  a rebuttable presumption and offering the right to sell to brewers proven they show that the payment gives the wholesaler no other rights than territorial exclusivity. Besides brewers are already paid by wholesalers – if one wholesaler is willing to pay more than another for the beer and thereby gets the exclusive rights to the territory, they are making the same payment over time – it is the exact same economic incentive paid out in a single burst by this kind of deal.  This argument isn’t developed very well in the brief.  Paying a brewer for something, whatever it is, doesn’t create an interest in the brewer by the wholesaler.  Wouldn’t paying for beer result in a similar interest.  The fact that the rights are alienable and can be sold away by the distributor or that the brewer is free to use the money paid however they see fit should be proof enough that there’s no control by the wholesaler.
  • Texas claims big brewers may start demanding monies from wholesalers thereby holding holding distributors hostage. This completely overlooks the fact that absent the distributor the brewer would either not get their beer to market or would be limited by the self-distribution cap.  Placing a cap on self-distribution means that the state has already solved this problem, creating some phony boogieman that says big brewers might do it through little brewers that they’ve purchased is unfounded and an implausible hypothetical as the little brewer either has to stay under the cap or can choose to sell for whatever they can get in order to distribute more beer.
  • There’s another argument that this may level a playing field for small distributors, which is a fair claim, but denies the economic reality that the field is already not fair for small distributors. Small distributors cannot pay the same price to manufacturers as large distributors but the state is not stepping in to mandate equal pricing to keep this playing field level.
  • The real issues from the brief stem from this entire line of jurisprudence expressed succinctly at the middle of page 26 of the state’s brief – citing to a Texas opinion quoting the U.S. Supreme Court from Heller v. Doe (520 U.S. 312:  “The State certainly has no obligation to produce evidence to sustain the rationality of a law, and the Legislature’s action may be based on rational speculation unsupported by evidence or empirical data.”  Yes, the highest court of law in this country actually said (the latter part of that quote) that a state has no obligation to produce evidence to sustain the rationality of a law, the legislators’ actions may be based on rational speculation unsupported by evidence or empirical data. Despite the fact that that’s a bad way to run any legislature, it doesn’t then translate that a legislature (or a court for that matter) can turn around and manufacture reasons for the legislative action, or that a court can simply determine without empirical study and proof whether or not a law achieves the goals stated as its rational basis.  Also, this statement is abhorrent to any rational society, especially an enlightenment principled nation like the U.S. with citizens that should demand there be a genuine correlation between legislation and results in order to justify interference or restriction with citizen’s liberty. It should be doubly troubling to any principled legal practitioner to hear a court say we don’t need anything other than idle speculation to support a law. And that’s the crux of what the state argues here and what states do across the country when they try to argue in favor of a rational basis:  they advance unsupported speculation about “intended results” as arguments the same way you used to in Introduction to Philosophy class – hoping a court will nod and agree and not ask for substantiation.
  • The last and most facetious of Texas’ arguments is that these aren’t property rights because a liquor license isn’t a property right.  If these aren’t, then why can a distributor sell them and sue a brewer for losing them?  Moreover, trying to claim that this is somehow tied to the privilege of a license misses the point that manufacturers aren’t looking to sell their licenses, they’re looking to sell the relationships and retail accounts and good will that they’ve created which is the exact same thing the distributors sell. This is something created under the license, just like beer, vodka, wine, and those things created with the license are saleable even though the right to make them is a “privilege.”  You don’t see the state demanding that the beer be given away for free.

What is really going on here is a full on taking.  The state is taking something without payment and giving it to another.  Something that in the other’s hands, it protects and demands payment for. Something which was signed away for a free for a very long time up until recently and now that this practice is being challenged, the people that used to get something for free are saying “hey, we want to keep drinking your milkshake and not paying you for it.”  This is nothing more than someone trying to smack down a disruptive idea because it challenges their economic incentives.  That’s why they’re trying to fight it tooth and nail like anybody would.

Make no mistake these arguments and this type of active litigation to create statutory or regulatory interpretation to keep small businesses from a achieving value for their property are nothing more than the heavy-handed actions of bullies looking to maintain their economic perch in an era no longer faced with the problems that gave rise to state enforced tiers in the first place.  Craft producers need to be familiar with this sophistry and ready to speak up and challenge and defeat these irrational arguments when they arise elsewhere.