California's Tied-House Prohibitions


Don't Let Your Marketing and Event Sponsorship Activities Run Afoul of California's Tied-House Prohibitions

By Filemon “Phil” Carrillo on March 26, 2018

The California Alcoholic Beverage Control Act (the “ABC Act”) established a three-tiered distribution system to regulate the production, distribution and retail sales of wine, beer, and spirits. In order to maintain a level of separation among the three tiers, the ABC Act includes what are known as tied-house prohibitions.[1]

The tied-house prohibitions are designed to limit down-stream influence by alcoholic beverage producers and wholesale distributers. The most prominent of the tied-house laws are as follows: Producers and distributors are prohibited from (1) holding any ownership interest in retailers[2]; (2) giving or lending “any money or other thing of value, directly or indirectly,” to retailers[3] ; and (3) paying for the ability to place advertisements at retailers’ stores.[4]

The rationale behind the tied-house provisions is that if a firm at a higher level of the distribution chain were allowed to give things of value to a firm at a lower level of the distribution chain, the firm at the lower level would have an incentive to give preference to the products of the firm making the gift.

This preference can take many shapes. For example, a retailer may place the product on a more prominent display on its sales floor. Or, the distributor may seek to convince its retailer clients to order more of a specific product. Without this undue influence, retailers and wholesalers are left free to market and sell products as they see fit—as intended under the law.

The tied-house rules may seem straightforward at first. But, it is easy to unintentionally run afoul of the prohibition against gifts and loans to retailers. The following cases illustrate how a producer or distributor may be found to have inadvertently violated the tied-house provisions of the ABC Act.

Paying for Advertisement in a Catalog May be a Violation of the Tied-House Prohibitions

In the ZD Wines case[5], a winery was found to have violated the tied-house prohibition by paying a printing company to add an advertisement for its product in Wally’s holiday gift catalog. ZD Wines was a producer that held a winegrower’s license and Wally’s held an off-sale retail license in Los Angeles, California. Each year, George Rice & Sons produced a holiday gift catalog that exclusively contained products carried by Wally’s for distribution to Los Angeles customers.

In 1995 and 1996, ZD Wines paid George Rice & Sons—not Wally’s—to include an advertisement for ZD Wines products in Wally’s catalog. Notably, but for the payments by ZD Wines and others, Wally’s would have had to pay for the printing of the catalog. Instead, it received payment from George Rice & Sons after the catalogs were distributed.

The Department of Alcoholic Beverage Control (the “Department”) filed an accusation against ZD Wines alleging that the payments to George Rice & Sons constituted a payment to a retailer in violation of the tied-house prohibition in Section 25502(a)(2) of the ABC Act. The administrative law judge (“ALJ”) found that the payments were indirect payments to Wally’s in violation of the ABC Act, and that cause for suspension of ZD Wines had been established. As an alternative, the ALJ proposed a $10,000 fine.

The case ended up before the California Court of Appeal. On appeal, ZD Wines argued that the Department’s interpretation of Section 25502(a)(2), vis a vie its finding that ZD Wines had made unlawful payments to Wally’s by paying for the advertisements, was incorrect. It argued that it merely purchased an advertisement in a catalog. However, the court distinguished the advertisement in Wally’s catalog from an advertisement in a magazine of general circulation. ZD Wines’ payments to place an ad in Wally’s catalog was tantamount to contributing to Wally’s cost of producing it. In fact, Wally’s made a profit from the sales of ad space.

This tangible benefit that ZD Wines conferred onto Wally’s was the type of gift that the tied-house rules were meant to prohibit. Wally’s would have an incentive to push ZD Wines’ products, thus giving ZD Wines influence over the alcohol beverage retailer.

The ZD Wines case makes clear that even payments to third parties, so long as they indirectly confer a benefit to a retailer, can implicate a violation of the tied-house laws. And, because ZD Wines was left to choose between a $10,000 fine and suspension of their liquor license (not to mention legal fees and costs of suit), the penalty was significant.

Event Sponsorship May Run Afoul of the Tied-House Laws

TheSchieffelin case discussed below shows that even contributions to a seemingly charitable event can implicate a violation.

In the Schieffelin case[6], Schieffelin and Somerset Company, the distributor of Grand Marnier liquor, was punished for sponsoring a race hosted by an on-sale alcoholic beverage retailer. Chevys, Inc., the operator of Chevys Restaurants and holder of on-sale retail licenses, hosted running events called “Chevys Fresh Mex Runs” and water events called “Chevys Fresh Mex Bathtub Regattas.”

A company by the name of A Change of Pace (“ACOP”) approached Chevys with the idea for these events. ACOP is a for profit company that was in the business of hosting events, like those hosted by Chevys, for promotional purposes only. There was no educational or fundraising component to the events.

The arrangement between ACOP and Chevys was that Chevys would pay ACOP $10,000 per event to be the title sponsor. Chevys was active in the planning process for the races. It approved various entry forms and promotional materials. And, when ACOP asked Chevys for a list of potential sponsors for the events, Chevys provided a list of vendors including Schieffelin and other alcoholic beverage suppliers.

ACOP invited Schieffelin to become a sponsor of the Chevys runs. Its approach was to emphasize the marketing potential for Grand Marnier. Schieffelin agreed to sponsor several races from 1996 through 1999, paying as much as $6,000 per event. Schieffelin never paid any money to Chevys. In exchange for the sponsorship, the Grand Marnier logo appeared on several marketing materials, including flyers that were placed inside of Chevys restaurants.

In 1999, Chevys held seven of its running events. Chevys should have paid a total of $70,000 for those events under its agreement with ACOP. However, Chevys only made two payments of $6,000, as well paying for some incidental costs because the payments of the other sponsors, including Schieffelin, subsidized the running events.

In 2001, the Department filed several accusations against Schieffelin. It later found that Schieffelin had violated sections 25500(a)(2) and 25503(h) by indirectly conferring a benefit onto an on-sale retailer by paying an intermediary for the benefit of sponsorship of Chevy’s events.

Schieffelin sought refuge under California Code of Regulations § 106(i)(2) (“Rule 106”). This rule allows producers and distributors to sponsor contests, races, and tournaments on or off licensed premises. However, this exception to the tied-house laws is limited to “monetary payments to bona fide amateur or professional organizations established for the encouragement and promotion of the activities involved.” [7]

The Department found that ACOP was not a “bona fide amateur or professional organization” because the purpose of its events was to create a marketing vehicle for sponsors. ACOP did not seek to encourage or promote running. On appeal, the California Court of Appeal upheld the Department’s ruling.

Guidelines to Avoid Inadvertent Violations of the ABC Laws

As the ZD Wines case and Schieffelin case illustrate, producers and distributors of alcoholic beverages should be selective in choosing their marketing initiatives, event sponsorships, and beyond. Every contract and payment should be scrutinized to ensure that it does not lead to a violation of the ABC Act. If not, the outcome can be costly—including temporary suspension of a license, heavy fines, and even revocation of the license altogether. [8]

Before paying for any advertisements or sponsoring events, producers and distributors should have the following in mind:

  • Payments to third parties that do not hold retail licenses do not provide shelter from the reach of the tied-house rules. If the contributions to the third parties provide any benefit to a retailer, then the contributions run afoul of the ABC Act. When considering advertisement, find out whether the payment will subsidize any activity by an on-sale or off-sale license holder.
  • Unless there is no doubt that an organization hosting an event falls under the Rule 106 exception, not sponsoring an event may be the best option. This is especially true where the title sponsor also happens to be an on-sale or off-sale license holder. To avoid an accidental violation, producers and distributors should scrutinize every organization that approaches them for sponsorship.

To avoid these dicey situations, producers and distributors should seek assistance of legal counsel tha

This article was prepared by Filemon Carrillo (fcarrillo@mulcahyllp.com), of the Irvine law firm of Mulcahy LLP. Mulcahy LLP is a boutique litigation firm that provides legal services to manufacturers, distributors, and retailers of alcoholic beverages and other companies in the areas of antitrust, trademark, copyright, trade secret, unfair competition, franchise, and distribution laws.

Disclaimer: While every effort has been made to ensure the accuracy of this article, it is not intended to provide legal advice as individual situations will differ and should be discussed with an attorney experienced alcohol and distribution law. For specific technical or legal advice on the information provided and related topics, please contact the author.

[1]The tied-house prohibitions in the ABC Act can be found in California Business and Professions Code Section 25500 et seq.
[2]See Cal. Bus. & Profs. Code §§ 25500(a)(1), 25502(a)(1).
[3]Cal. Bus. & Profs. Code §§ 25500(a)(2), 25502(a)(2).
[4]Cal. Bus. & Profs. Code § 25503(h).
[5]Department of Alcoholic Beverage Control v. Alcoholic Beverage Control Appeals Board (“ZD Wines”), 100 Cal. App. 4th 1066 (2002).
[6]Department of Alcoholic Beverage Control v. Alcoholic Beverage Control Appeals Board (”Schieffelin”),128 Cal.App.4th 1195 (2005).
[7]Cal. Code Regs. tit. 4, § 106.
[8]See Cal. Const., art. XX, § 22, par. 9.

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