July 14, 2004 Board Room Alcoholic Beverages Division
Members Present in the Chambers:	Shirley Daggett Mary Hunter Scott Doll Dick Stoffer Gayle Collins
Members Absent:	Carolyn Cavitt Mary Hunter
Guests Present:	Sheila Douglas, Iowa Wholesale Beer Distributors Cheryl Sinclair, Iowa Wholesale Beer Distributors Jay Doll, Doll Distributing Inc.
Staff Present:	Lynn Walding Jim Kuhlman Judy Seib Gary Marker Russ Eagen Linda Cox
Counsel Present:	Karen Doland

Call to Order

Minutes of Previous Meeting

Introductions and Announcements

Derek Lippincott has been hired as a contract employee in the tobacco group. Derek, a professional photographer, was the editor in chief of the Daily Nebraskan at the University of Nebraska last year. His journalistic and photography talents will be utilized in his duties in tobacco compliance and tobacco violation press releases.

Steve Henson has safely returned from his year of military duty in Iraq to resume his duties in tobacco enforcement.

Deb Harlan who works in regulation has been hospitalized recently and will be on medical leave for several weeks.

At this time no decision has been made to fill the financial officer position vacated by Marty Deaton.

Commissioner Carolyn Cavitt

Election of Officers

Tobacco Enforcement

Gary Marker reported 5,316 total checks were done in FY 04 with a compliance rate of 89.36%. Mr. Walding hopes the education program will boost the figure to 95% compliance.

Commissioner Doll asked how Iowa's compliance rate compares with other states. Mr. Walding stated the distinction is not necessarily the neighboring states; rather it is how well the states do enforcement resulting in better rates. It is easier to compare it to alcohol where it is not uncommon for communities to have a 40% noncompliant rate for alcohol checks. Iowa's noncompliance rate was 50% when the division took over tobacco compliance.

Certified Training
Local newspapers, associations and retailers have been notified classes are available for employees to become certified. The classes, underwritten by penalty funds, offer retailers a "get-out-of-jail-free pass" if the retailer sends employees for certification. Mr. Walding pointed out that this training is an on-going service the Division has provided since its inception. While the state program was being phased in, retailers were allowed to use local programs for one year; however, local programs are no longer valid to receive the benefits.

The website currently lists 25 sites where classes are available. Mr. Marker expressed his disappointment in the lack of participation by retailers in the larger cities. He stated that lack of registrations has caused 20 previous classes to be cancelled. Marker pointed out that there is a high turn-over rate of employees in the retail business and unless the employees get training, it is more difficult for them to look at a license and determine the correct information.

Exclusive training sessions are offered to companies who can fill a class of 50; for those who can only fill a class of 30, the class is put on-line to obtain the additional 20 people to fill the class. Currently, 665 people have been trained with 655 people passing the test on-line.

Compliance Check Irregularities Mr. Marker reported the Adair County Deputy charged with two felony counts will apparently be allowed to plead guilty to two serious misdemeanors and will be required to turn in his certification as law enforcement. The charges were brought as a result of the deputy falsely stating he had made compliance checks. Another incident in the northwest involving an officer who submitted untruthful paperwork will be submitted to the County Attorney.

Financial Report

Liquor sales through June are up $12.5 million dollars which is an approximate 10.5% increase over last fiscal year according to Jim Kuhlman. Factors include: 1) liquor suppliers are advertising more aggressively; 2) population has increased in the 21 - 34 age group which is the highest consumption age group; 3) consumers are enjoying flavored spirits; and 4) on-premises accounts are doing a good job of promoting the consumer's taste for flavored spirits and the accounts attractively packaging the product. Mr. Kuhlman predicts that the industry will continue to rebound over the next four years; however, he does not see any states at the same point they were in the early 80's when liquor consumption was at its peak.

The number of licensees is down somewhat through May compared to last year. Wine tax is up approximately 7% for the year. Other revenues are up $10.8 million year-to-date compared to one year ago. Expenses increased $7 million with investment in liquor inventory accounting for $6.8 million of the amount.

Warehouse contract numbers are up approximately 23% which is a direct correlation to what the Division paid the J. A. Jones Company. All the figures in the report reflect monies paid to J. A. Jones Company. An automatic cost price adjustment formula in the J. A. Jones contract was refigured each July. The formula was based on two national indicators by the U.S. Department of Labor: the increase in the cost of diesel fuel and the cost of service labor. Diesel fuel was rated as 10% of the price adjustment with the labor rated at 90%. Those factors are multiplied by last year's rate to determine the current year's rate. That increase coupled with the buying increase contributed to the 22% increase paid to J. A. Jones last year.

The Iowa ABD took over the warehouse operations in May. None of those expenses are reflected in the current report.

Mr. Kuhlman will continue to track what the Division would have paid J. A. Jones if the company was still fulfilling the contract. The last indicator for diesel fuel showed an increase of 38% over last year. The contract had a protective clause that only allowed the contract to increase a maximum of 7% each year which happened once or twice during the 13 year contract. The contract also included a clause stating the cost could not decrease.

Total revenue over expenses was $3.4 million more than for the same period last year. Through May, the Division transferred $42.5 million compared to $36.5 million last year, an increase of $6 million. The figure has increased to $9 million through June.

Iowa Code (123.53) states that the Division will transfer $9 million or 7% of gross sales whichever is greater to be used for substance abuse treatment efforts by the Department of Public Health subject to appropriation by the legislature. Therefore, in addition to the annual $9 million transfer, the division will transfer an additional $360,000 for substance abuse treatment. Lynn Walding expressed concern that although the Division transfers the money for substance abuse treatment, health officials' state that only $2 million of those funds gets appropriated with the rest staying in the General Fund and distributed to other programs.

Mr. Kuhlman stated the bulk of the general fund transfer money is from the sale of liquor; however, wine taxes and license fees are also included. Beer taxes are earmarked to the Treasurer's Office rather than the General Fund. Mr. Kuhlman explained there are discrepancies because the Division reports the transfers as specified by the Code; however, the Legislature determines how the money is appropriated.

Tobacco civil penalties increased from $89,900 last year to $239,200 this year. A back log of pending cases in FY03 is reflected in FY04 collections. Also, the penalty increased for 2nd and 3rd offenses from $300 to $1500.

Alcohol civil penalties collected through May were $32,000 less than last year collections; however, there are some large fines that will be collected before the end of the fiscal year making it comparable to FY03 collections. In response to Commissioner Doll's query, Judy Seib said there were no wholesaler penalties collected. The wholesale industry, for the most part, is self-regulated.

Liquor sales continue the upward trend in dollars and gallons; however, Mr. Kuhlman does not expect double digit growth to continue. Control states as a whole represent 25% of the liquor sales in the United States. Growth in Iowa far exceeds that of most of the other control states. Gallonage sales over the last 12 months have increased approximately 7% compared to 3% - 4% for most other states. While Mr. Kuhlman takes a more conservative approach and predicts only a 4% - 5% growth in dollars, Mr. Walding predicts a 6% - 8% growth based on the strong finish at the end of the fiscal year. He cited the first day after Memorial Day weekend when the figures showed a 38% increase and the fact that liquor sales in Iowa are booming. Diageo reported that Iowa is the number 3 market in the United States as far as percentage growth in the 50 states and number 1 in the control states. In addition to the contributing factors cited by Kuhlman, Mr. Walding attributes the growth to 1) making more money on premium products; 2) inflation; 3) liquor sales stealing beer sales through liquor advertising campaigns; and 4) the growth of the legal drinking age pool which will continue to grow between now and 2010. Mr. Walding pointed out the division does nothing to promote drinking.

Wine taxes continue with healthy growth whereas beer taxes have leveled off.

Jim Kuhlman commented the division is very proud of the $40 million transferred to the General Fund in FY03. The division began making additional transfers to the General Fund in December. Through June the division transferred an additional $7 million which is $7,750,000 more than projected for the Charter Agency performance and $9 million more than the total amount transferred last year.

Sales Comparison

Jim Kuhlman reported dollar sales increased every month during FY04. Retailers bought the lower priced vodkas in volume during the month of February in anticipation of the March price increase and the implementation of the variable markup on the premium vodka. Don Lux, the President of David Sherman Company which produces Hawkeye vodka, suggested to Lynn Walding that the division do the variable mark up program (VMR) on an every other month basis because David Sherman sales boomed in February.

Four of the top 10 products in Iowa are no-name vodkas, partly because of the gallonage tax; however, the premium brands are growing. Gallons are up 7.47% for the year and dollars are up 10.3%. The 3% difference represents the premium increase and inflation. Statistical data is available to suppliers to do promotions with businesses. Diageo was up 12% due to incentive program money for Class E licensees who encouraged people to switch to premiums.

Product Buy-Outs

One of the methods identified to generate more income in the Charter Agency Agreement was to increase TPR buyouts. If the product is not going to go on sale within the next two months, the division purchases a 60-day supply of inventory. The increased purchasing resulted in $234,000 additional profit for FY04. The warehouse inventory turns about 11 - 12 times per year and averages about $12 - 14 million dollars. Most brokers place their own orders for the warehouse with the division setting minimum and maximum levels. The industry likes the control they have over their product and the shipping procedures. The system has proven to be good for Iowa. Over 1500 products are stocked in the warehouse and outages are usually less than 1%.

Counsel's Report

There are several cases pending according to Assistant Attorney General Karen Doland. The previous Iowa City cases have either been completed by the hearing process or settled prior to the hearing. According to Walding, the Airliner and Fitzpatricks Bar in Iowa City are trying to sell their properties. The violations do not follow a new owner; they follow the licensee, not the establishment.

A settlement agreement was negotiated in the case involving the Union Bar in Iowa City. The Union Bar is owned by TM Corporation, consisting of owners Tom, Michelle and George Barlas. Michelle and Tom Barlas also have licenses in the Mason City area and George Barlas lives in Iowa City and managed the Union Bar. The Union Bar had 4 violations for selling to minors and was facing revocation. According to Iowa law, if a bar's liquor license is revoked, that property cannot be licensed for one year. The settlement agreement contains the following terms: 1) the owners agreed to go out of business; 2) no-one affiliated with the current owners could own the Union Bar; and 3) Michelle and Tom Barlas were allowed to keep their licenses in Mason City where there had been no problems. A sign in the window of the Union Bar states the bar will open on the 18th; however, there are no applications for a license on file with the city or the state at this time.

Although there are plans to post decisions on the website, they are not currently available. Commissioner Collins asked to have copies of all decisions mailed to her. Commissioner Collins is particularly interested in violations occurring in the city of Des Moines. Oftentimes the city doesn't want licenses renewed; however, the state renews them. Ms. Seib commented the local authority is the approving body. The application then goes to the city council with recommendations from the city agencies or county agencies. If a license is denied by the city or county, the Iowa ABD immediately sends the licensee a notice that their license has been denied and advises them of their right of appeal. If it is a new license, the business cannot open; however, if it is a renewal and the denial is not based on a significant public safety issue such as shootings or drug dealings, the business will be allowed to operate until the hearing process is completed. There is the proposed decision heard by the ALJ, an appeal goes to the Administrator and if denied, it goes to District Court and on through the court system.

Although some states have commissioners conduct hearings, Iowa made the decision approximately 10 years ago to replace commissioners with administrative law judges who are trained on collecting evidence. Administrative law judges issue Proposed Decisions, which are appealable to the administrator. In the appeal process, the administrator is bound by the facts determined by the administrative law judge. The administrator reviews appropriateness of sanctions and policy issues.

Ms. Doland commented there is an effort underway by the DCI to crackdown on intoxicated people in casinos and riverboats. Casinos and riverboats are in dual violation when they serve alcohol to an intoxicated person and when they allow an intoxicated person to gamble. Unlike a bar, an individual may be in a casino for 12 hours and servers are not keeping track of the amount of alcohol served. Complaints have been filed against two casinos and another may be filed.

Mr. Walding stated the legal fine for a violation is $1,000 with a license suspension up to one year or revocation of the license. Casinos and riverboats generally will pay stiff penalties rather than suffer the economic impact of being shut down. Past violations in Council Bluffs and Sioux City resulted in $30,000 - $60,000 fines. Penalties in Missouri are in the six figures and Mr. Walding suggested that Iowa may want to consider increasing its fines to ensure greater compliance.

Civil Penalty

Over the past 4 years, the state has collected an average of over $100,000 each year as the result of civil penalties. The division previously had statutory authority to retain civil penalty funds for educational programs and the money didn't revert to the General Fund at the end of the fiscal year. Mr. Walding would like to get authority during the next legislative session to retain the civil penalty funds to use for training. The division TIPS trained almost 700 people in Iowa City in one week at a cost of $10,000. Since that time, licensees, health officials and city officials from several communities have requested the training; unfortunately, there are no longer funds to offer the training. The TIPS program charges $15 per employee and the division paid all the costs as an incentive to get employers to train their employees. It is important that bar owners know what the local police expectations are; therefore, the division will only offer courses in a community where law enforcement will do the training with the division. The division has used only the TIPS program; however, if law enforcement is trained in another program, the division will consider the program.

Charter Agency Status

The agency has completed one year as a charter agency. As a charter agency, the division made a commitment to the Governor to produce an extra $1.25 million. Under the agreement, if Mr. Walding met his objectives there was a bonus available; however if he did not meet his performance objectives, he was subject to termination. Five revenue ideas were submitted.

1. Temporary price reduction program
As Mr. Kuhlman pointed out in his earlier report, the division now purchases a 60-day supply of product in the Buyout Program compared to the previous 30-day supply. Staff focuses on assuring that there are no outages of popular brands that would result in lost revenue to the state. Mr. Walding has also taken advantage of his position as the President of NABCA to ensure that Iowa receives priority in allocations of product. Special order product is being shipped to retailers immediately upon receipt.

2. Variable Markup
The variable markup program (VMR) was announced in February and was implemented in March. A representative for Barton Brands recently told Mr. Walding that Barton vodka sales decreased; however, mid-range vodka sales increased and more than compensated for lost sales. The broker earns less money on mid-range products and has to sell more to make up for the loss. Theoretically, the retail price of Gray Goose vodka should have gone down $5 but it did not in all locations. In response to Commissioner Doll's question, Lynn Walding replied that some of the retailers understand the blended margin concept while others apparently do not. Mr. Walding said it is still too early to judge the success of the program. The program will be evaluated in 3 - 4 months and a decision will be made at that time on whether to add another category to the program.

Jim Kuhlman reported employees of the division price-shopped before the announced markup. Another price check will be done in September to see whether the savings has been passed on to the consumer. Retailers reacted immediately to the products that were increasing in price and passed the increase on to consumers. Some retailers have taken profits from other product lines to use in the vodka category in an effort to either maintain the current pricing or to contribute greater to the markdown effect. Most border retailers are taking some of the profit through the higher end products and using it to keep prices down to be more competitive on the lower end with the neighboring state.

Retailers on the border were critical that the VMR program didn't go far enough - they wanted 20% according to Mr. Walding. Commissioner Doll questioned whether the Iowa retailers are competitive with the Illinois retailers on the border. Jim Kuhlman responded that retailers are not competitive on 175's and premium goods due to the Illinois tax and markup structure. Wholesalers in the private states tend to average about 20% markup overall in goods, coupled with the state tax, to make around 30% compared to Iowa's 50% markup. Mr. Walding added that Illinois is one of the most competitive markets in the United States. Unfortunately, most of Iowa's population lives on the eastern border.

Mr. Kuhlman added there has been intense pressure in the last 4 - 5 years in state governments to raise taxes to help balance state budgets. Some of those taxes have not been raised in a long time. Illinois raised their tax rate from $4.00 to $4.50 and Nebraska also increased their tax rate a year ago.

3. Personnel Changes
Although being a Charter Agency gives the agency the authority to hire at will, Mr. Walding has tried to cut costs when personnel transferred to other state agencies. The Accountant 4 position vacated by Marty Deaton and the Information Technology Specialist position vacated by Rich Youds will not be filled saving the state a significant amount of money. When Dick King retires in July, his maintenance engineer position will likely be reclassified and filled.

4. Warehouse Project
The most identifiable project is the warehouse operation which resulted in at least $1.5 million in savings according to Mr. Walding and could potentially save hundreds of thousands dollars more by changing the truck route schedules. The state outsourced the warehouse business December 31, 1991, to save money. Mr. Walding looked closely at taking over the warehouse at the 10 year renewal date of the contract awarded to J. A. Jones Company. As a result, in 2001 J. A. Jones Company was forced to bid lower because they knew the state was considering taking it back. When J. A. Jones Company declared bankruptcy, the Charter Initiative gave the division the ability to seize the opportunity and resume the warehouse operation in May.

Bill Petroski's article in the Des Moines Register reported female inmates were working 15 hour days at 37 cents an hour. The first few days of operation liquor sales were up 20% to 38%, which contributed to the long hours. While Mr. Petroski's article was accurate, by press time the learning curve had taken place and inmates were working between 8 and 10 hours a day. Some of the original inmates who did not want to work in the warehouse were replaced by other inmates. In addition, more inmates were added to the work schedule and more scanners and double pallet jacks were purchased to facilitate the work.

The inmates are paid $6.25 a day. After the Department of Corrections (DOC) takes out restitution and other costs, the net pay of the inmates is 37¢ an hour. In addition, the inmates are offered an incentive bonus of 50¢ if they meet their picking rate. Although there were problems initially with inmates who did not want to be here, the DOC currently has a waiting list of inmates who want to work in the warehouse. The job helps the inmates with re-entry into civilian life by helping them with skill development, work ethic and the ability to be a team player. Inmates who are good workers receive letters of reference upon their discharge from prison. Commissioner Collins suggested that the state could train the inmates at 37¢ an hour and then hire paroled inmates at a normal wage when they are released from prison. Mr. Walding responded he would consider hiring good workers if there was an opening available.

A correctional officer is always on duty and the division pays DOC for one and one-half positions to transport and guard the inmates. Inmates must meet with alcohol and drug council advisors to determine if they can emotionally handle working around alcohol before they are allowed to work in the warehouse. The inmates work in a fenced area with restricted access and are subject to breath tests and body searches if anything is suspected. Additionally, each night two inmates are randomly selected for a breathalyzer test.

A PowerPoint presentation, which was shown to the Government Oversight Committee, was shown to the Commissioners. The presentation can be seen on the Division's website at www.IowaABD.com. The presentation identified and addressed concerns named in the newspaper article.

During the session, Republicans passed appropriations language saying that the Iowa Alcoholic Beverages Division could not hire anyone to operate the warehouse. The Governor vetoed the language giving the division and the private sector an opportunity to bid on both the warehousing and trucking operations. The Governor is interested in getting the bid out as soon as possible. The Division will work with the Department of Administrative Services (DAS) to create a "Request for Proposal" (RFP). The bid will be divided into 3 different tiers: the trucking component; the warehouse component; and the trucks, equipment and maintenance component. The bids will be let, a bidders conference will be held and when the bids are received a team will review the bids. In the past the team has been comprised of members from DAS, the Department of Management and the Iowa Alcoholic Beverages Division. A member of the legislature may be added to the review team and the Iowa Alcoholic Beverages Division may not participate in the bid review because the division will be one of the bidders.

Mr. Walding pointed out it will be almost impossible for the private sector to beat the rate the division pays. Inmate labor is available to the private sector; however, by Federal law, inmate labor cannot displace a private sector job and the private sector has to pay the inmates prevailing wage. Commissioner Collins commented on the inequality in the bidding process with private companies to which Mr. Walding responded he considered it "cost containment".

State operation of the liquor warehouse is not a new concept. Iowa Code specifically says the division shall deliver the liquor and can determine how it shall be done. State government using inmate labor is also not new. Mr. Walding pointed out that inmate labor provides lawn mowing service at Terrace Hill and cleans at the capitol complex, as well as numerous other jobs in state government and private industry. The inmates want to work and are doing a good job.

According to Mr. Walding, strategic advantages are:

1. The state can save an estimated $1.5 million. If the private sector can outbid the state, the state saves more.
2. The case cost went from $1.98 to $1.43 resulting in a 55¢ reduction.
3. The $300,000 - $400,000 profit sent to the J. A. Jones Company in North Carolina coupled with the inmate labor has allowed the state to save $700,000 a year.
4. Better customer service.
5. The freedom to explore other avenues of saving money and cutting costs that were not available when the warehouse was contracted.

In response to a question by Commissioner Doll, Mr. Walding replied the state hired all the J. A. Jones truck drivers as state employees and they are driving the same fleet of leased trucks on the same route schedule. All drivers will be required to have physicals and undergo drug screening. Mr. Eagen will be making significant changes to the routing schedule which will cut costs dramatically. The routes will comply with all federal and DOT regulations. In addition, Mr. Eagen is in the process of training employees how to operate equipment in accordance with OSHA standards. State employees are being trained as trainers so they can teach new inmates.

5. Entrepreneurial Spirit
Staff can get a bonus based on ideas submitted and put into place. The Order Entry Staff came up with a way to reduce their workload on a daily basis by automating one of the processes.

Miscellaneous

Privatization
The Register editorial staff contacted Mr. Walding regarding the issue of privatization and asked him why the state should be in the business. Mr. Walding told the writer there were 4 reasons:

1. Revenue production. Mr. Walding pointed out that the division transfers millions of dollars to the General Fund each year and revenue can go up even with consumption staying the same. The writer disagreed that revenue should be a factor.
2. Health aspect. The state does not promote alcohol consumption and there is a national move to get legislation through for various programs to combat underage drinking. The writer again discounted the issue.
3. Level playing field. The state sells the product to both small and large retailers at the same price which offers protection to the small retailers allowing them to compete with large corporate retailers.
4. Rural access. The state is required to sell to any class E licensee at the same price regardless of quantity of purchase or distance of delivery.

Mr. Walding sees the effort regarding the warehouse contracting as a privatization effort. He pointed out that the division's position is neutral; however, it is his obligation to make sure the legislature is aware of the impact privatization would have. Jim Kuhlman added that the only way to get the state out of the business is to either lose revenue or raise liquor prices 20%. When Commissioner Doll pointed out that it was done with wine, Mr. Kuhlman responded the state lost a considerable amount of money in the process. Mr. Kuhlman also pointed out that beer wholesalers have specific territories and do a very good job in servicing their customers; however, wine wholesalers cover the whole state and rural retailers complain that wine access is poor.

IT
Commissioner Doll asked about the software program for tax collections. Mr. Kuhlman stated that there is still discussion going on as far as the beer and wine tax collections program. Progress is being made on the on-line licensing program. The parameters have been defined and weekly meetings are taking place. Mr. Kuhlman will give an update at the next meeting.

White Paper
Commissioner Stoffer inquired whether there was anything new on the dram shop paper or the underage drinking paper. Mr. Walding replied the dram shop paper is on his desk waiting for review.

Upcoming Meetings

Linda Cox will contact the commissioners at a later date to set the time and the place for the next meeting.

Adjournment