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Distilleries in the US are often approached by businesses and individuals who are interested in having the distillery produce and/or bottle product on their behalf. These arrangements are simple to describe in plain English, but they are deceptively complicated “under the hood”. In addition to Federal Trade Practice regulations, these arrangements are typically governed by the distillery’s home state regulations, as well as those of the brand owner’s state, if different.
Since you have 50 states’ worth of regulations, interacting with 49 other states’ worth of regulations, there are 50×49 = 2,450 potential regulatory combinations to consider. As such, we’ll focus on generalities in this article and encourage you to hire an attorney with state-specific experience to get appropriate guidance on your own contracting.
Licensing & Three Tier
The broad rule for alcoholic beverages is that only licensed entities can participate in profits. Licensed entities are Producers/Distilleries (Tier 1), Wholesalers/Distributors (Tier 2) and Retailers (on & off-premise; Tier 3). Many brand owners that seek to engage you for copacking are not a licensed part of the three-tier system!
The simplest arrangement, and the cleanest one for the Distillery, is to contract with a licensed wholesaler to produce and/or bottle product, which is then sold directly to the wholesaler. Since Federal Trade Practice regulations largely restrict what you can do when selling to retailers, you have a good amount of flexibility in terms of how you contract the relationship between you and the wholesaler. With this arrangement, you (the producer) sell bottles for a profit, and in turn, the wholesaler (your customer) makes money by selling the bottles to retailers and/or wholesalers/exporters.
If the copacking customer is instead a retailer themselves, then you need to be mindful of “thing of value” prohibitions. Neither a producer nor a wholesaler can give a retailer a “thing of value” in connection with an alcohol sale, and a custom labeled product is generally considered a thing of value (it potentially allows a retailer to out-compete other retailers, resulting in a competitive advantage, which has a financial value). Distilleries attempting to create a custom product for a retailer are advised to offer the customization to any similarly-situated retailer who inquires and are also advised to employ multiple wholesalers to bring the product from producer to retailer. These steps reduce the chances that you’ll run afoul of “thing of value” regulations.
See also: TTB Presentation on Trade Practices, and be aware that many states have their own “thing of value” regulations (often under “Tied House” or “Tied House Evil” statutes) which can be more restrictive than the Federal regulations. You must comply with both State and Federal regulations, unless they conflict, in which case Federal regulations take precedence.
Sharing Profits Outside Three Tiers
What about a distillery that pays to license a brand or mark from a rightsholder that is not licensed in the three tier system? Most states allow a distillery to pay “service fees” to non-licensed entities – for example, a marketing agency, label designer or a credit-card processor. However, these fees become more problematic if they are denominated in terms of a percentage of alcohol sales.
Although credit card fees are typically expressed in “percentage of alcohol sales” terms, the amounts involved are considered de minimis. The fact that you can legally pay an unlicensed credit card processor 2.5% of sales does not necessarily mean that you can legally pay an unlicensed rightsholder/brand owner 50% of sales.
Separate and above, such an arrangement is also typically prohibited if the unlicensed entity can exert substantial control over the distillery’s production and/or finances.
In case this isn’t already clear, these determinations can be subjective. It may not be a productive use of your time to invite this level of scrutiny into your operations. The author advises extreme caution (and the use of qualified attorneys) when engaging unlicensed 3rd party services beyond the customary “flat fee” marketing/branding/creative arrangements and credit card processors.
