By Jamie Emerson-Heery
The agriculture business is always a risky proposition. You could have the best vines, grapes and land, but there is still so much beyond your control. There may not be enough sun, or there may be too much heat. There could be a drought or damage from heavy rains, fires or smoke. Insects and other pests can cause significant losses, as well. Then, of course, you get a once-in-a-century event like a global pandemic to make things even more interesting.
In California, winegrowers faced a number of significant challenges even before anyone had ever heard of COVID-19. Fluctuating bulk wine and grape prices made it difficult to predict market value in the future. In recent years leading up to 2019, for example, harvests were on the large side, but wine sales did not keep pace, which actually caused prices to slip. It was the typical supply demand curve in all its glory.
Then came the pandemic. Unlike many sectors of the economy, the wine industry has fared well, generally-speaking, during lockdowns. People rushed to stores and stocked up on alcohol in the early days of the outbreak, which allowed many wineries to clear their stock. However, wineries whose business model was based on direct sales to restaurants or through tasting rooms had to pivot quickly to embrace a retail sales model. Not everyone was successful at making this kind of major change, and a number of California wineries have struggled to stay in the black over the last year. Some have even opted to skip making a 2020 vintage wine while others, if they were financially able to do so, took a more aggressive position and bought up more 2020 bulk wine to play with.
2020 also saw multiple fires hit wine-growing regions up and down the west coast. The Glass Fire in Napa and Sonoma Counties burned more than 67,000 acres of vineyards and destroyed or damaged structures at almost 30 wineries. And wineries that avoided damage caused by flames still had to deal with another problem: smoke taint. The regular intake of red wine grapes harvested in 2020 was about 40% lower due to issues related to the usability of grapes affected by smoke. As a result, some vineyards decided not to harvest any grapes at all, and instead filed insurance claims for the smoke taint. Others took a risk and harvested more grapes than usual. They then experimented with ways to remove the smoke flavor and aroma from the wine.
There is still a lot of uncertainty over the wine industry’s immediate future. As the vaccine rollout spreads across the country, will retail consumers continue to purchase large amounts of wine for home consumption? Will they revert to pre-pandemic levels and return to eating at restaurants? Nobody knows for sure. All of this has set up some unique challenges for the wine industry going forward. For accounting purposes, here are three areas where issues could arise.
1. Paycheck Protection Program
The Paycheck Protection Program, or PPP, was part of the COVID relief bill signed by the President in late March 2020. The purpose was to offer small businesses low-interest and potentially forgivable private loans to help cover payroll and other expenses. Thousands of companies across the country took part in this program, so this issue is not limited to just the wine industry. Figuring out how to properly account for PPP can be a challenge. Is it a loan or a grant? If a company is notified of forgiveness, should that be presented in the financial statements? These are among the questions businesses must answer to ensure accurate accounting.
2. Interest rate swap agreements
Interest rate swaps are cash flow hedging instruments whereby a company with a significant amount of debt can lock in a fixed rate of interest in exchange for a variable-rate payment from the bank. The idea is to reduce your exposure to market interest rates that can fluctuate in times of economic uncertainty. From a financial statement perspective, there is a value to the swap agreement that may need to be recorded as an asset or liability, with the corresponding fluctuations recorded as gains or losses on the income statement.
3. Pivoting to retail sales
Many wineries that have traditionally focused on selling directly to restaurants (or consumers via tasting rooms) needed to pivot during the pandemic to different sales channels to remain afloat. This entailed finding and working with distributors to ensure that their products got into stores and on shelves. Having a new business model requires changing some accounting methods. Wineries need to keep track of new expenses associated with new sales channels like the price and discounts they give to the distributor, plus adjustments like depletion allowances (a system where the winery could knock a couple of dollars off a case to help with sales promotions).
As many companies wrap up their 2020 fiscal year, it is essential to know that all three of these potential challenges require an accounting professional with the expertise to navigate these uncharted waters and comply with U.S. Generally Accepted Accounting Principles (GAAP). Having the ability to account accurately for pandemic-related challenges is essential for financial records, and both investors and regulators will expect to see them detailed in reports. Finally, financial institutions will also require this documentation to ensure that a winery is complying with its financial covenants. Failing to address these issues could damage the relationship between the company and its financial institution, so it is imperative to know how to record all pandemic changes accurately.
BPM Assurance Services for Wineries
BPM understands the business challenges wineries face. With offices in the heart of Northern California wine country, BPM’s Wine / Craft Beverage Industry Group brings a uniquely local expertise to the wine community. And with the talent and resources of one of the largest California-based CPA firms behind us, our Assurance professionals deliver truly world-class service. From financial statement reviews and compilations to year-end audits, our services are designed to efficiently assess risk and identify areas where you are most susceptible to risk. For more about how BPM can assist with your pandemic-related accounting challenges, contact Jamie Emerson-Heery, Senior Manager in Advisory and Assurance, today.