THE FUTURE OF CHILEAN WINE EXPORTS TURNS SOUR

From Knowledge at Wharton

In the late 1970s and early 1980s, tourists who visited Chile were surprised to discover the low prices and delicious taste of the country's wines.

Alvaro Pena, an agronomist on the faculty of the University of Chile, says that's when vineyards in the country began to make significant changes in their mentality. "They adopted advanced technology and invested in new machinery for optimizing the winemaking process in the field -- especially irrigation and planning -- and they started using rustproof steel barrels and casks made of French oak."

Vina Miguel Torres pioneered introducing technology in its production processes, notes Fernando Herrera, country manager of Gori Chile, and an expert in the wine supply chain. Miguel Torres used rustproof steel barrels that were much lighter, attractively scented and fruity. The winemaker offered an innovative higher-quality product that was conducive to the development of new wine varieties.

Between 1994 and 1998, Chilean wine exports underwent a strong boom, notes Herrera. There were more than 120 companies on the market, shipping thousands of cases to such international markets as Peru, Argentina, Paraguay, Uruguay, Ecuador and Brazil. Later, Chile also moved into the United States and Europe, and more recently, into Asia.

It was 1997 that was the decisive year for this phase of exporting, with the country recording 129 million liters of shipments to foreign markets, worth $446 million, according to Focuswine. By the end of 2007, the volume of shipments reached 592 million liters (worth about $1 billion). That means the Chilean industry grew by 112 percent over the decade. Currently, Chile exports 62 percent of its production, to buyers in 90 different countries.

According to Alvaro Pena, "The quality of Chilean professionals -- engineers, agronomists and university-trained wine experts -- combined with Chile's free-trade agreements with the largest trading blocs in the world were the keys to developing the country's current model for exporting."

Marcos Mora, director of the agrarian economics department at the University of Chile, notes that "the trading strategy of the country is based on the efficient management of the ports of Valparaiso and San Antonio, which made it possible for the country's products to be well positioned in the principal export destinations (the U.K., the U.S., Canada, Germany and Brazil, as well as Asian countries)."

Without doubt, the local wine industry has undergone a positive period of expansion. But what is missing if Chile is to become more competitive with wines of France, the U.S., Argentina and Australia? What has been its most effective price-quality strategy? Also, what is the prognosis for the future of the industry?

Argentina, one of the leading wine-producing nations in the Americas, has undergone a significant expansion in recent years marked by increased exports, notes Mora. Although the current volume of Argentine exports lags behind Chile, Argentina is a strong competitor. "The size of the industry in Argentina is one of its main comparative advantages because the cultivated land area is 80 percent larger than in Chile," says Mora.

Experts point out that the greatest merit of Argentina is that it has quickly developed products that sell at higher prices than Chilean wines. For a long time, notes Alvaro Pena, Chile's wine strategy for winning foreign markets has been based on providing good value for the money.

Fernando Melchor Riera, an independent winemaker who does business in both Chile and Argentina, agrees. "Chilean wine has positioned itself in a niche that provides very high quality at a cheap price. That can also be a barrier because it is very hard to move out of this segment and up to another, higher-priced niche."

"Chilean wine always costs less for the same quality," notes Javier Troncoso, an agricultural economist at the University of Talca.

"Chile's weakness is the money that it invests in promoting its wines," adds Troncoso. ProChile is an organization that depends on the Ministry of Foreign Affairs and whose sole objective is to promote the image of the country. "However, in 2007 ProChile spent only $10 million (on promoting wine). That's nothing compared to how much other countries like Australia and New Zealand are spending (to promote their wines)."

Troncoso also asserts that "Chilean exports to the U.S. have been flat because the U.S. is producing more and more of its own wine."

Mora adds that Chile also suffers from weaknesses when competing with European winemakers. "The wines that come from Spain, Italy and France all exploit their countries' long traditions of winemaking, and their prices are quite competitive. Add to that the efforts of Eastern Europe wines to win a larger share of the European market."

"You also have to emphasize that the successful positioning of Australia in various consumer markets has presented an important barrier for Chilean wine and forced Chile to redouble its efforts to remain competitive," says Mora.

Nevertheless, Chilean winemakers have shown skill at adapting their local vineyards to the needs of global consumers, notes Mora. "It is important to mention that Chilean vineyards have sent clear signals to Japanese consumers aimed at getting them to buy Chilean wine."

Still, the low value of the dollar is clearly a major source of concern for Chile, eating away at profit margins for Chilean producers.

According to Mora, "the exchange rate is a variable that has negatively affected the wine industry, now that the return on investment has dropped. Nevertheless, there is no way that we can change exchange rates, which depend on external factors, largely in the U.S."

As a result, Herrera has this recommendation: "What wine exporters are going to have to do is the same thing fruit producers have done. This year's fruit production season will have to be less focused on exports to the U.S. In much the same way, Chilean winemakers will have to focus on those destinations where the currency is stronger and more stable, such as Europe and Asia."