Venture Firms Toast Online Wine Industry –

NEW YORK – The online wine industry has not aged gracefully.

Unlike books and compact discs, the distribution of alcoholic beverages via the Internet is subject to several regulatory barriers that differ in literally every state.

“You can pick up a phone and order a pair of blue jeans and have it shipped from state to state,” said Al Sheid, chief executive of publicly traded Sheid Vineyards. “However, in some cases shipping wine is a felony.”

Working Within the Law

Although 21 states ban direct interstate shipments of alcohol, such laws have not been heavily enforced. In fact, sources say there are many e-commerce businesses that illegally distribute wine over the Internet. While this practice can be lucrative, a company based on perpetual felonies is not likely to recruit vintage venture firms to finance its operations.

To overcome these legal barriers, WineShopper.com, which is backed by Kleiner Perkins Caufield & Byers, will launch its site later this year with the support of the Wine and Spirits Wholesalers Association (WSWA). San Francisco-based WineShopper has worked directly with the three tiers of the wine industry – wineries, wholesalers and retailers – to construct a distribution platform that conforms to interstate trade laws.

By fulfilling orders through the WSWA, WineShopper is licensed to distribute wine to 37 states. The company expects to have distribution licenses in all 50 states prior to the anticipated site launch in the 1999 holiday season.

“Some of our competitors enjoy higher margins through disintermediation, but this is illegal and does not coincide with the rest of the market,” says WineShopper Chief Executive Peter Sisson. “By trying to disintermediate, these companies have burned many bridges with wholesalers and have painted themselves into a corner.”

Mr. Sisson founded WineShopper in 1998 after serving as a telecommunications analyst for Montgomery Securities. He said his telecommunications background and passion for wine motivated him to start the business.

Last month, WineShopper closed on the $14 million initial tranche of its first institutional round, which included $7 million from Kleiner Perkins and $7 million from additional strategic investors. The investor group has committed as much as an additional $32 million toward the second tranche of the round, which has no formal closing date. Mr. Sisson said WineShopper’s next round of financing will likely be a public offering.

“You have to realize that you don’t work against the three-tier system but with the three-tier system,” said Kleiner Perkins General Partner Ted Schlein. “Others have tried to do go against it, and it just doesn’t work.”

Mr. Schlein adds that it is very possible that WineShopper will enter into formal marketing agreements with several of his firm’s portfolio companies, including Amazon.com.

“If you look at what we have done with Drugstore.com and other Kleiner Perkins companies, it is easy to see potential linkages,” says an Amazon spokesperson. “But our policy is not to comment on anything that may happen in the future.”

Mr. Sisson said deal leads and the legitimacy the firm brings to WineShopper were two reasons why he chose Kleiner Perkins out of more than 30 venture firms courting the company.

“They are like the Good Housekeeping Seal of Approval as far as due diligence is concerned,” he said. “We would not need to go outside of their portfolio companies to drive traffic if we didn’t want to.”

Three Tiers Not For All

While WineShopper is being developed in accordance with the WSWA, Virtual Vineyards has been operating since 1995 with a less bounded relationship to wholesalers.

The company has raised more than $10 million in venture funding since then, from investors that include Inroads Capital Partners, Alpine Technology Ventures, Applied Technology Ventures, Broderbund Software, Mitsubishi International Corp. and Bayview Investors.

“Distribution should not be a profit center,” said co-founder Robert Olson. “Our focus is to squeeze out the inefficiency of the middle-tier.”

Olson says Virtual Vineyards is more selective with the brands of wine it distributes, unlike “the superstore model” embraced by WineShopper.

Mr. Sheid views the three-tier system “as essentially a monopoly, where a major distributor could get a bite of everything related to alcohol.” He adds that WineShopper’s agreement with the WSWA will foster a clumsy and expensive distribution system, but he is rooting for it to succeed.

“The laws have precluded any efficient system up until now,” said Robert Mondavi Vice President Jennifer Becker. “Anything that facilitates greater access to consumers and leverages channels like the Internet, I support.”

In many categories of e-commerce, including books, music and auctioning, the incumbent property has enjoyed massive advantages. Mr. Olson anticipates this will be true with wine as well.

“The company believes there is a huge prize for being first, much smaller for being second, and no prize at all for being third,” he said.