Briefing Report: Tied-up with Tied-House

California's Laws Governing the Production, Distribution, and Sale of Alcohol Beverages
Wednesday, May 28, 2014

“Are You Ready For Some Football?!?!?!” And a Drink…

Levi’s Stadium, currently under construction in Santa Clara County, is soon to be the new home of the National Football League’s (NFL) San Francisco 49ers. Rising from the salt marshes just south of San Francisco Bay, Levi’s Stadium is a state of the art facility slated to open in July of this year. And, if you’re one of the lucky 68,000 fans who can afford to witness a 49ers game live and in person, you’re going to want a nice “cold-one” (Chardonnay) to go with your Tempura Shrimp, Truffle Mac and Cheese, and Maine Lobster Pot Pie.

But, there’s a problem. Up on that scoreboard, there are large, colorful signs advertising “Bud-Light,” the “Official and Exclusive Malt Beverage Partner”1 of Levi’s Stadium. Yet, under current law, a person licensed to sell alcoholic beverages to individuals is prohibited from accepting money for advertising from a manufacturer of alcoholic beverages. This prohibition is enshrined in the “Tied-house” laws, California’s complex system designed to regulate the production, distribution, and sale of alcohol beverages. For you “49er faithful;” there’s no need to panic. You can have your beer and drink it, too. Currently, a bill2 is circulating through the Legislature to provide the operators of Levi’s Stadium with the same advertising exemption from Tied-house enjoyed by every major entertainment venue in the state – from Raley Field in West Sacramento to the Staples Center in Los Angeles3.

Legislators and staff are confronted by legislation amending the Alcoholic Beverage Control Act (ABC Act)4 and seeking exemptions to the Tied-house laws every year. As such, it is important to understand what these laws are, and how they impact the marketplace. These laws have been in place for over 80 years and the alcoholic beverage industry has developed around them. Changes to Tied-house can result in major impacts on the marketplace. This Briefing Report is designed to provide some background on California’s multifaceted alcoholic beverage control laws, as well as some history of how they originated and evolved over the years.

Prohibition and the Rise of Regulation

The intricacies of alcohol beverage laws reflect legitimate societal concerns about alcohol abuse dating back thousands of years. They are manifest in social mores, religious teachings, and a long history of successful and unsuccessful government regulation – “Prohibition”5 being the most extreme.

The 21st Amendment to the Constitution of the United States repealed “Prohibition” and granted to the states the constitutional authority to regulate all aspects of the alcoholic beverage industry within their boundaries.  In California, the manufacture, distribution, and sale of alcoholic beverage products are governed by the ABC Act, administered and enforced by the Department of Alcoholic Beverage Control (ABC).

Our alcohol regulatory system stems from the end of Prohibition in the early 1930s.  As it became apparent that Prohibition was a failure, Congress and the states began to formulate a regulatory scheme for alcohol beverage control.  The goal was to eliminate the vast illegal network that had developed during Prohibition and the monopolistic system that characterized alcohol production and sale prior to Prohibition.  In the end, authority over the alcohol beverage industry was vested with the states and alcohol beverage control became an integral part of each state’s system of business regulation and law enforcement.

Tied What?

The "Tied-house Restrictions”6 or "three-tier" system, separates the alcoholic beverage industry into three component parts of manufacturer (the first tier), wholesaler (the second tier), and retailer (the third tier). The term “Tied-house” refers to a practice in this country prior to Prohibition, and still occurring in Great Britain today, where a bar or public house, (the "house" of tied house) is tied to the products of a particular manufacturer, either because the manufacturer owns the house, or the house is contractually obligated to carry only a particular manufacturer's products. California law prohibits this “tying” of retail licensees to a particular manufacturer.

The original policy rationale for this body of law was to: (a) promote the state's interest in an orderly market; (b) prohibit the vertical integration and dominance by a single producer in the marketplace; (c) prohibit commercial bribery and protect the public from predatory marketing practices; and, (d) discourage and/or prevent the intemperate use of alcoholic beverages. Generally, other than exceptions granted by the Legislature, the holder of one type of license is not permitted to do business as another type of licensee within the "three-tier" system. In other words, a retail licensee cannot also be licensed as a distributor. Existing law grants the ABC “liberal” authority to interpret and investigate violations of the ABC Act and Tied-house laws.

The Levi’s Stadium situation provides a prime example of the Tied-house laws at work. Tied-house generally prohibits a manufacturer of alcoholic beverages and a winegrower from paying, crediting, or compensating a retailer for advertising or paying or giving anything of value for the privilege of placing a sign or advertisement with a retail licensee. The operator of the stadium, the Santa Clara Stadium Authority, holds the retail license. Therefore, legislation is needed to create a special advertising exemption. But allowing manufacturers to buy advertising space from the operators of Levi's Stadium, the on-sale licensee, blurs that separation allowing the manufacture an undue influence with the retailer.

Republicans instinctively oppose such statutory regulation in favor of a free market approach where the marketplace can correct inefficiencies. Many have argued for the wholesale elimination of Tied-house laws. Unfortunately, that approach is problematic in that the alcoholic beverage industry, with its diverse segments and interests, was built around these laws over the past 80 years. Furthermore, there is no desire within the industry to do away with them. Therefore, it is unlikely they will go away any time soon. Consequently, care needs to be taken when amending them because the system has to work in order for business to conduct business.

The ABC’s of Licensing

There are 77 different alcoholic beverage licenses and permits issued by ABC ranging from Winegrower, Brandy Manufacturer, and Distilled Spirits Manufacturer licenses to On-sale general licenses for trains, boats, and airplanes. Originally the Board of Equalization was given the task of regulating and enforcing alcoholic beverage laws.  However, in the 1950s, a scandal involving BOE staff members allegedly selling liquor licenses occurred.  The Legislature, decided to "solve" the problem by creating the Department of Alcoholic Beverage Control7.  Since then, this agency and its functions have been added to the California Constitution8. ABC administers and enforces the provisions of the Alcoholic Beverage Act and, as such, ABC issues all licenses for the sale, distribution, and manufacturing of alcoholic beverages in California.

The most common licensees encountered by members of the public are retail licensees, also called “on-sale” and “off-sale” licensees. An on-sale licensee is one who sells alcoholic beverages for consumption on the premises, such as a restaurant or bar.  An off-sale licensee is one who sells alcohol beverage products that are not served on site and are to be removed from the premises following the sale.  This, of course, would be a grocery store or liquor store. On-sale licenses are issued by ABC on a county by county basis. The formula in law for number of on-sale general licenses that are issued in a county is limited to one license for each 2,000 (or fraction thereof) inhabitants in which the premises are situated.

In counties with smaller populations in particular, this can lead to a shortage of licenses available for the number of businesses that desire them – especially in tourist-rich but population-poor counties like Mono and San Luis Obispo. General on-sale and off-sale licenses can be sold and transferred from one proprietor to another with the concurrence of the ABC. ABC also can place conditions on a license that is being issued or transferred either of its own accord or requested by local governments and citizens. However, as provided by the State Constitution, the final decision on all alcoholic beverage licensing rests with the state and not with local governments.

First and Ten…

California’s alcoholic beverage control laws were enacted, “[F]or the protection of the safety, welfare, health, peace, and morals of the people of the State, to eliminate the evils of unlicensed and unlawful manufacture, selling, and disposing of alcoholic beverages, and to promote temperance in the use and consumption of alcoholic beverages.”9 They affect every aspect of the alcohol beverage production, distribution, and sale. This is an industry that, essentially, is regulated by statute. As demonstrated by the Levi’s Stadium scenario, the industry often needs the intervention by the Legislature to adjust those rules so that it can conduct orderly business in the marketplace.

The Tied-house system has been credited with eliminating commercial bribery and predatory marketing practices and discouraging the intemperate use of alcoholic beverages. The Legislature has prohibited most forms of cross-ownership between retailers and suppliers. The giving of gifts, premiums, or free goods in connection with the sale and distribution of alcoholic beverages by suppliers to retailers is prohibited.  Winegrowers, brewers, and manufacturers are generally prohibited from paying or compensating retailers for advertising or from placing signs with a retail licensee.  Each “tier” has been enacted to prevent overly-aggressive marketing practices, which might allow large suppliers to gain market share in ways unavailable to smaller competitors.

Adam Smith, the father of modern free-market economic theory,10 railed against intrusive government regulation on economic activity as well as the economic power of monopolies and mercantilism and the political influence that accompanies such power. So, are the Tied-house laws too intrusive? Or have they prevented the development of monopolistic ventures in the alcoholic beverage industry? They have been called the most successful anti-trust laws ever enacted. But they are massive and cumbersome, often conflicting, and at times, restrictive to the point of absurdity. Yet despite Tied-house and the ABC Act, there is a healthy and diverse alcoholic beverage industry in this state that seems to be able to work with their confines. Even the San Francisco 49ers fans at Levi’s Stadium will not be deprived of the great American tradition of Bud Light ads on the scoreboard.

For more information on this report or other Governmental Organization Committee issues, contact Richard Paul, Senate Republican Office of Policy at 916/651-1501.

2 AB 600 (Bonta) of 2014, pending in Senate Appropriations
3 Business and Professions Code §25503.6
4 Business and Professions Code §23000 et. seq.
5 “Prohibition” was a nationwide ban on the sale, production, importation, and transportation of alcoholic beverages that remained in place from 1920 to 1933, mandated under the 18th Amendment to the U.S. Constitution. The 21st Amendment repealed Prohibition on December 5, 1933.
6 Business and Professions Code, Division 9, Chapter 15, §25500 et. seq.
7 Business and Professions Code §23050 et. seq.
8 California Constitution Article XX, §22.
9 Business and Professions Code §23000
10 Adam Smith, An Inquiry into the Nature and Causes of the Wealth of Nations, 1776.