1735 Market Street

43rd Floor
Philadelphia, PA 19193

215-567-6100
215-567-4180 (fax)
www.pfm.com

September 14, 2016

Memorandum
To:
From:

Montgomery County Liquor Control Workgroup

John Cape, Randall Bauer and Geoffrey Stewart PFM

Re:

DRAFT Analysis of Options Related to DLC Operations

Background
The structure of control of alcoholic beverages in the United States goes back to the repeal of
Prohibition in 1933, which left it to each state to decide how to regulate their reborn alcohol
businesses. Most jurisdictions became licensed states, where wholesalers and retailers were granted
licenses to buy and sell alcoholic beverages. However, a minority of states chose to maintain larger
degrees of control over the wholesale and/or retail system. Eight decades later, 17 states remain
control states, meaning that the state government controls some or all aspects of wholesale
distribution and retail sales of beer, wine and/or distilled spirits. While the State of Maryland is
considered a licensee state, it gives local governments the option of imposing regulatory controls
over the system. As a result, Montgomery County is one of the few local governments in the US to
operate on the control model. Besides its monopoly on distribution, the county owns 25 liquor
stores that are the only places to buy distilled spirits for off-premise consumption.
The US Census Bureau reports that Montgomery County accounts for 11 percent of the
Washington areas bars and restaurants. But measured by alcohol sales per resident, the county
underperforms by 20 percent, with $789 sales per capita versus $989 in the region as a whole.
Moreover, the countys bars and restaurants employ 23 percent fewer workers, as a percentage of its
population.
Issues related to the County's Department of Liquor Control (DLC), its alcohol distribution to
restaurants and retail beer and wine stores, and its operation of stores that sell beer, wine and spirits
have long been a subject of debate in the county. In recent years, concerns about access, service,
selection and price have prompted a renewed examination of the role of the DLC. In 2015, the
Montgomery County Council established an Ad Hoc Committee on Liquor Control to examine
alternatives to the current DLC system. Also in 2016, there were state legislative proposals for
changes to DLC and for a referendum on privatization. While no action was taken in the Maryland
General Assembly, County Executive Isiah Leggett appointed a DLC Privatization Work Group to
evaluate different models of liquor control, distribution and wholesale and retail operations. The
County Executive identified two clear evaluation criteria: any option would have to be fiscally
neutral and not negatively impact the existing liquor revenue bonds.

Montgomery County
September 14, 2016
Page 2

On August 24, 2016 Public Financial Management was retained to assist the County in the analysis
of a variety of identified options for reform of the Countys control of alcoholic beverages. During
the initial phase of engagement, PFMs primary focus is on answering two fundamental questions
related to the options under consideration by the Work Group: (a) is the option fiscally neutral to
the Countys finances, and if not what steps could be taken to make it neutral; and (b) what impact,
if any, would implementation of the option have on the outstanding bonds supported by DLC
revenue.
The purpose of this memo is to provide additional data and information pursuant to the Working
Groups discussion at their meeting on September 15, 2016.
Working Group Options
The Working Group has identified a series of options, which formed the basis for the preliminary
review by PFM. These options include:
1. Privatize wholesale distribution of:
a. All products to on-premise establishments
b. Beer and wine to both on and off-premise establishments
c. Beer only to both on and off-premise establishments
d. Special-order beer and wine to both on and off-premise establishments
2. Private management
a. Private-management contract
b. Maine-model P3 contract
3. Establish a County liquor authority
4. Full privatization (license jurisdiction)
In addition, based on PFMs prior experience working with liquor control jurisdictions, an additional
option was proposed, which is also analyzed:
5. Bailment approach for warehouse
Methodology
The Department of Liquor Control (DLC) and the County Office of Management and Budget have
provided PFM with a broad range of data, including:

Structure of product pricing,

DLC operational and administrative revenues and expenses,

Montgomery County
September 14, 2016
Page 3

Performance data on inventory, sales and profitability,

Cashflow metrics, and
Structure of payments in support of debt service and transfers to the County treasury.

Using this data as a starting point, PFM created Microsoft Excel models to organize and analyze the
data to estimate (to the extent possible) the fiscal impact for each option analyzed. To do so, PFM
created a baseline profile of existing revenues and expenditures and then applied a series of specific
analytical adjustments that quantify how the financial base will be impacted by the option. The
specific assumptions and resulting analytical adjustments are described in the data and analysis
sections for each option under discussion.
Additionally, PFM financial advisors reviewed the existing liquor bond official statements, bond
covenants and other documentation and reviewed the impact analysis for each option with respect
to whether the option will negatively impact the existing liquor revenue bonds.
Finally, should the option not be revenue neutral and/or negatively impact the existing liquor bonds,
PFM provided input on the types of actions that could be taken to make the option revenue neutral
or not impact on the liquor revenue bonds, as well as a brief discussion of policy and market
implications of these actions.
DLC fiscal profile
The following table shows the relevant data for the sales of alcoholic beverage product during the
fiscal year ending June 30, 2016. This and the following tables are based on preliminary,
unaudited financial data and is subject to change.1

The project team used average markup data and sales allocations to make revenue estimates. Actual results may vary from this analysis.

Montgomery County
September 14, 2016
Page 4

Montgomery County DLC

Product Pricing Structure
DLC Fiscal Year Ending 2016- Preliminary Unaudited: Subject to Change

Price Component

Spirits

DLC Stores
Wine

Beer

Spirits

Off-Premise
Wine

Other1

Beer

Spirits

On-Premise
Wine

Beer

TOTALS

Cost of Goods Sold (COGS)

$54,682,237

$32,282,291

$5,584,258

$205,977

$31,782,975

$51,502,255

$9,633,608

$13,922,047

$12,909,062

$491,484

$212,996,194

State Alcohol Tax

$1,440,964

$438,395

$18,520

$6,658

$472,091

$233,139

$274,721

$155,462

$39,630

$3,079,580

$543,928

$1,011,918

$88,082

$2,230

$802,069

$1,291,000

$86,421

$225,840

$177,981

$18,164

$4,247,632

Total Laid-In Cost @ Warehouse

$56,667,129

$33,732,604

$5,690,860

$214,865

$33,057,134

$53,026,394

$9,994,751

$14,303,348

$13,126,673

$509,648

$220,323,407

Wholesale Mark-up2

$14,635,817
25.8%
$71,302,946

$6,846,613
20.3%
$40,579,217

$1,411,186
24.8%
$7,102,046

$77,104
35.9%
$291,969

$7,606,223
23.0%
$40,663,357

$14,432,432
27.2%
$67,458,826

$2,809,319
28.1%
$12,804,070

$3,453,544
24.1%
$17,756,892

$7,324,398
55.8%
$20,451,071

$2,534,182
497.2%
$3,043,829

$61,130,817
$281,454,224

$12,338,810
30.41%
$52,918,027

$631,898
8.90%
$7,733,943

$21,710,810

Total Gross Sales

$8,740,102
12.26%
$80,043,049

$291,969

$40,663,357

$67,458,826

$12,804,070

$17,756,892

$20,451,071

$3,043,829

$303,165,034

State Sales Tax 4

$7,203,874

$4,762,622

$696,055

$12,662,552

Total Gross Sales + State Sales Tax

$87,246,923

$57,680,649

$8,429,998

$291,969

$40,663,357

$67,458,826

$12,804,070

$17,756,892

$20,451,071

$3,043,829

$315,827,586

Freight

Total Wholesale Sales

Retail Mark-up

Assumptions
1. Other includes: Store supply, dunnage, non-alcoholic beverages, and other uncategorized sales
2. Average spirits wholesale markup is estimated at 27.4%, Average wine wholesale markup is estimated at 23.4%, Average beer wholesale markup is estimated at 25.9%
3. Average spirits retail markup is estimated at 13.8%, Average wine retail markup is estimated at 33.5%, Average retail beer markup is estimated at 10.0%
4. State sales tax is 9% and is remitted to State
5. Licensee sales made at DLC stores were estimated (approximately 10%) and allocated to off premise and on premise totals

For Fiscal Year 2016, DLC reported a total gross profit from alcohol sales of about $82.8 million,
including:

Gross profit from wholesale markups that averaged about 27.7%, yielding $61.1 million
Gross profit from retail markups that averaged approximately 18.3%, or $21.7 million

Montgomery County
September 14, 2016
Page 5

The following table shows the relevant revenue data for DLC:
Revenue

Total ($)
$82,841,627
$1,805,302
$194,402
$88,220
$30,700
$54,221
$19,220
$85,033,692

Alcohol Sales
Liquor Licenses
Other Fines/Forfeitures
Other Licenses/Permits
Investment Income
Misc. Revenues
Other Charges/Fees
Total

For Fiscal Year 2016 revenues, DLC reported:

Total revenue from all sources of more than $85.0 million

Revenue from alcohol sales accounted for 97.4% of total revenue ($82.8 million)

The following table shows the relevant expenditure data for DLC:
Expenses
Director's Office
Administration
Licensure
Retail Operations
Wholesale Operations
Delivery Operations
Other
Total Operating Expenses
Debt Service (Liquor Bonds)
Debt Service (Master Lease)
TOTAL EXPENSES

Total ($)

$3,197,691
$5,332,684
$1,908,685
$24,101,855
$11,560,190
$5,734,201
$3,679
$51,838,985
$9,828,000
$881,400
$62,548,385

For Fiscal Year 2016 expenses, DLC reported:

Total operating expenses in excess of $51.8 million

Total payroll of about $24. 3 million, which supported approximately 427 FTE positions

Montgomery County
September 14, 2016
Page 6

Net revenues available for the General Fund of $33.2 million represents total revenues of
$85.0 million less total operating expenses of $51.8 million
Net remaining revenues for the General Fund of $22.5 million represents net revenues
available for the General Fund less required debt service for liquor bonds and master lease
payments of $10.7 million

Fiscal Impact Methodology

All of the options were analyzed to determine their fiscal impact to the county. Fiscal impact was
determined by reviewing the proposed changes to current DLC operations and estimating their
impact on current expenses and revenues. Most recent available data, FY2016 estimated actuals, was
used for this analysis. The project team used readily available data and high-level analyses to
determine fiscal impact. If an option is to be considered for implementation, additional analysis is
recommended to determine exact fiscal impacts of each option.
Expenses were estimated as prorated percentage of total product volume. Volume was considered a
better predicator of workload than total sales. For options involving changes to wholesale
operations, total wholesale operational expense was allocated by product type (beer/wine/liquor), by
product order type (stock/special order) and by sale type (on/off premise). Pro-rated reductions to
indirect expenses (e.g., Administration, Directors Office) were also estimated for each option. The
table below details DLC volume breakdown.

Montgomery County
September 14, 2016
Page 7

2016 DLC Volume by Product

Product
Beer/Kegs
On-Premise Stock
Off-Premise Stock
On/Off Premise Stock
On-Premise Special Order
Off- Premise Special Order
On/Off Premise Special Order
subtotal- Beer
Wine
On-Premise Stock
Off-Premise Stock
On/Off Premise Stock
On-Premise Special Order
Off- Premise Special Order
On/Off Premise Special Order
subtotal- Wine
Liquor
On-Premise Stock
Off-Premise Stock
On/Off Premise Stock
On-Premise Special Order
Off- Premise Special Order
On/Off Premise Special Order
subtotal- Liquor
Total Beer/Wine/Liquor Volume

Quantity
(cases/kegs)
515,700
3,200,564
82,381
18,412
78,684
2,749
3,898,490

37,540
363,417
0
4,853
68,644
0
474,455

9.4%
58.6%
1.5%
0.3%
1.4%
0.1%
71.4%
0.0%
1.5%
13.0%
0.2%
1.5%
3.5%
0.2%
19.9%
0.0%
0.7%
6.7%
0.0%
0.1%
1.3%
0.0%
8.7%

5,457,456

100.0%

79,896
709,697
8,726
81,206
193,323
11,664
1,084,511

Changes to revenues were estimated using available sales data. The project team was provided
granular sales data that detailed total sales by product type (beer/wine/liquor), by product order type
(stock/special order) and by sale type (on/off premise). In some cases it was necessary for the
project team to use averages to estimate gross sales and sales allocated to a particular product or
sales type.

Montgomery County
September 14, 2016
Page 8

2016 DLC Gross Sales by Product

Outlet

Product Type

Gross Sales

% of Total

DLC Stores

Spirits
Wine
Beer

$80,043,049
$52,918,027
$7,733,943

26.4%
17.5%
2.6%

Subtotal

$140,695,019

46.4%

Spirits
Wine
Beer
Subtotal

$291,969
$40,663,357
$67,458,826
$108,414,152

0.1%
13.4%
22.3%
35.8%

Spirits
Wine
Beer
Subtotal

$12,804,070
$17,756,892
$20,451,071
$51,012,033

4.2%
5.9%
6.7%
16.8%

other

$3,043,829

1.0%

Total

$303,165,034

100.0%

OffPremise

OnPremise

Other

DLC Debt Profile

The County has issued tax exempt revenue bonds to acquire and equip the DLC warehouse and for
a variety of transportation capital projects in the County. Currently, about $105 million in bonds are
outstanding, with an annual debt service of about $9.8 million. The debt is secured by an
irrevocable pledge of net revenues from the sale of alcoholic beverages.
$ 46,765,000
$ 34,360,000
$ 46,645,000
$127,770,000

Series 2009
Warehouse purchase ($32.7 million); Road projects ($16.3 million)
Series 2011
Warehouse renovation ($5.0 million; Road projects ($30.7 million)
Series 2013
Warehouse renovation ($15.0 million); Road projects ($32.0 million)
Total bonds issued

$ 34,725,000
$ 28,305,000
$ 41,600,000
$104,630,000

Series 2009
Callable April 2019 @ par
Series 2011
Callable April 2021 @ par
Series 2013
Callable April 2021 @ par
Total bonds outstanding

Montgomery County
September 14, 2016
Page 9

The principal amortizes in annual installments over 20 years. The bonds are structured for level
annual debt service requirements, and annual debt service is $9.84 million through 2029, declining
thereafter, with a final maturity in 2033.
The bonds are issued under a trust agreement, dated May 1, 2009, between the county and U.S.
Bank N.A., the trustee. Debt service is payable solely from the trust estate, which consists of the
pledged revenues, the balance held on deposit under the trust agreement, and any other property
rights and interests granted to the trustee. The additional bonds test (ABT) requires that pledged
revenues for the most recent bond year must equal or exceed 150% of debt service on the existing
bonds in that year plus the maximum annual debt service (MADS) on the proposed bonds and that
the estimated pledged revenues projected for the succeeding five bond years are no less than 150%
of MADS on the outstanding and proposed bonds. There is no rate covenant and no debt service
reserve fund.
All net profits from the DLC sale of alcoholic beverages are first applied to maintain the working
capital reserve, and the remaining net profits are applied to the debt service fund via a transfer to the
county's general fund. The net profits transferred to the general fund are the pledged revenues for
debt service. On a quarterly basis, proportional payments are deposited with the trustee to first fund
principal and interest on the bonds prior to transfers to the general fund. Working capital
contributions are determined annually by the County Finance Director and the Director of the DLC,
subject to approval of the County Executive. In 2001, criteria were established to calculate the
annual working capital contribution, which includes amounts equal to one month's operating
expenses, $1.5 million for inventory purchases, and other projected short-term expenses.
The following illustrates the flow of funds:
DLC NET PROFITS
WORKING CAPITAL RESERVE

DEBT SERVICE FUND

(QUARTERLY)
GENERAL FUND
In Fiscal Year 2016, net revenues available for the General Fund was $33.2 million, or more than
three times the debt service requirement.

Montgomery County
September 14, 2016
Page 10

Other tax-exempt equipment debt of $4.72 million is also outstanding, principally related to ERP
expenses and fork lift purchases. These generated about $881,400 of debt service costs in 2016.
The trust agreement defines Pledged Revenues as all revenues of the Montgomery County
Department of Liquor Control as and when transferred to the general fund so the County is limited
as to what could be used as additional Pledged Revenues. The bondholders are also secured by all
moneys and securities held under the trust agreement. This would allow the deposit of other
money with the trustee to secure the bonds. However, if those revenues are to replace or substitute,
they would need to be as continuous and dependable as the original revenues which are derived
from a near monopoly over the sale of alcohol. In short, there may be revenue that meets this
hurdle, but it is a high hurdle.
With that in mind, when evaluating the impact of each alternative, it will be important to determine
whether the proposed changes are material to (i) existing bond holders, (ii) rating agencies and (iii)
the trustee. Any material change to the underlying Pledged Revenues that result in a lesser level of
security than that monopoly control will likely require:
Bond holder consent which can be time consuming, expensive and there is no guarantee a
majority will agree to the proposed changes;
Bond counsel review and approval;
Trustee review and approval (unlikely without bond holder and bond counsel approval.
Material changes that reduce Pledged Revenues securing repayment of the bonds are likely to have
varying adverse impacts, which may impact the County in both the current and future events. For
example:
Negative rating action(s), including single or multi-notch downgrades and an assignment of
negative outlook;
Publication of a material event notice to bond holders on www.emma.msrb.org;
Potential for bond holder litigation;
Potential lasting negative impact on investor relations and tarnish Countys excellent
reputation in capital markets.
Further, when evaluating the fiscal impact of each alternative, it will be important to consider how
the alternative may impact the status of the outstanding tax-exempt debt. Federal tax law strictly
limits the extent to which tax-exempt bond proceeds and tax-exempt financed assets may be used
for non-governmental purposes. Use in excess of the limits established under federal tax law may
cause the bonds to be treated as private activity bonds, and consequently, no longer be treated as
federally tax-exempt. Bonds are considered private activity bonds if the bonds meet the private
business use test and the private security or payment test.
Private Business Use Private business use means the direct or indirect use of tax-exempt
financed property in a trade or business by any person other than a governmental unit or the general

Montgomery County
September 14, 2016
Page 11

public.2 This includes tax-exempt non-profit organizations and the Federal government. For
purposes of applying the private business use test to qualified 501(c)(3) bonds, governmental units
include the activities of 501(c)(3) organizations that are not treated as unrelated trade or business.3

Private Business Use

Private Business Use Test

Private Payment or Security

Test

Private Business Use Summary

Direct or indirect use of tax-exempt financed property in a trade or
business by any person other than a governmental unit or the general
public
Met if more than 10% of the proceeds of an issue are used for a private
business use
If the private business use is unrelated or is disproportionate to the
governmental use of the proceeds, then the 10 percent limitation is
reduced to 5 percent. The 5 percent limitation also applies to qualified
501(c)(3) bonds
Met if the payment of debt service on more than 10 percent of the
proceeds of the issue is directly or indirectly: (1) secured by property
used or to be used for a private business use, or payments in respect of
such property, or (2) to be derived from payments in respect of
property, or borrowed money, used or to be used for a private business
use

Private Business Use Test The private business use test is met if more than 10 percent of the
proceeds of the issue are to be used for any private business use. If the private business use is
unrelated or is disproportionate to the governmental use of the proceeds, then the 10 percent
limitation is reduced to 5 percent. The 5 percent limitation also applies to qualified 501(c)(3) bonds
(e.g., bonds issued to finance the facilities of institutions of higher education and non-profit
hospitals).
Private Security or Payment Test The private security or payment test is met if the payment of
debt service on more than 10 percent of the proceeds of the issue is directly or indirectly: (1) secured
by property used or to be used for a private business use, or payments in respect of such property,
or (2) to be derived from payments in respect of property, or borrowed money, used or to be used
for a private business use.4

See Internal Revenue Code Section 141(b)(6).

See federal regulations section 1.145-2(b).

See Internal Revenue Code Section 141(b).

Montgomery County
September 14, 2016
Page 12

Exceptions to Private Business Use Several exceptions to private business use are established in
the federal regulations. IRS Revenue Procedures establish safe harbors under which management
and certain other service agreements do not result in private business use.
Bond counsel should be consulted to determine if any exceptions to private business use apply.
Bond counsel should also review all management and service contracts to determine if they result in
private business use. In certain circumstances, if the deliberate action is the sale of a tax-exempt
financed asset, the issuer may be permitted to allocate the disposition proceeds (the proceeds
received from the sale of the asset) to qualified expenditures, such as to obtain a replacement asset,
in lieu of defeasing bonds or establishing an irrevocable defeasance escrow to defease bonds.5
Option One: Privatize Wholesale Distribution
The primary issues to analyze are the difference in revenue and expenditures for three approaches
including servicing off-premise establishments (between a and b), beer in its entirety (c) or only
special order beer and wine (d).
Alternatives:
a. Switch to private wholesale distribution of all products to on-premise establishments.
The assumption of this approach is that it will increase licensee selection and price
performance, which in turn promotes growth of the dining and entertainment
industry in the County. Under this approach, private wholesalers will service the onpremises industry (including, bars, restaurants, hotels, etc.) in the county. For
purposes of the fiscal impact analysis, the DLC Cost of Goods plus freight and tax
(Laid-in cost) is eliminated for the on-premises market as well as that portion of the
wholesale mark-up, warehouse operations and delivery costs. It should be noted that
the private wholesale system will then pass along its version of these costs to the onpremise establishments.
DLC data was aggregated and formatted for analysis. Expenditure data related to
warehouse and wholesale distribution was cost-allocated based on the units of
product delivered to the on-premises customers as a percentage of all products
delivered to DLC stores and all license types.
The shift of this relatively small portion of the DLC wholesale book of business,
while feasible from a logistics perspective has supply chain risks. Private wholesalers
may be reluctant to pick up only this small and relatively delivery-intensive element
of the business, or may not offer optimal pricing for this component. If this option
5

See federal regulations section 1.141-12(e) and 1.142-2(c)(4).

Montgomery County
September 14, 2016
Page 13

is selected, discussion with the wholesale supplier community prior to

implementation is advised.
Fiscal Impact
It is estimated that this option will result in a net reduction of $10.5 million to the
County. Divesting of on-premise wholesale sales will reduce revenue from alcohol
sales by $13.5 million. Expenses can be expected to be reduced by approximately $3
million to account for reduced volume handled by the wholesale operations.

Liquor Control- 2016

EXPENSES
Director's Office
Administration
Licensure
Retail Operations
Wholesale Operations
Delivery Operations
Other
Total

REVENUES
Alcohol Sales
Liquor Licenses
Other Fines/Forfeitures
Other Licenses/Permits
Investment Income
Misc. Revenues
Other Charges/Fees
Total
Net Revenues Available for the General
Fund
Less Debt Service (Liquor Bonds)
Less Debt Service (master lease)
Net Remaining Revenues for the General
Fund

Current Operations
$3,197,691
$5,332,684
$1,908,685
$24,101,855
$11,560,190
$5,734,201
$3,679
$51,838,985

Option 1a.
$3,037,670
$5,065,823
$1,908,685
$24,101,855
$9,826,161
$4,874,070
$3,679
$48,817,944

Current Operations
$82,841,627
$1,805,302
$194,402
$88,220
$30,700
$54,221
$19,220
$85,033,692

Option 1a.
$69,254,366
$1,805,302
$194,402
$88,220
$25,481
$54,221
$19,220
$71,441,212

$33,194,707
$9,828,000
$881,400

$22,623,268
$9,828,000
$881,400

$22,485,307

$11,913,868

Montgomery County
September 14, 2016
Page 14

It is difficult to determine how redesigning processes in a distribution chain may

impact on overall system expenditures. Removing on-sale premises from the
wholesale distribution process is a significant change, and the resulting wholesale
distribution system will be quite different (with far fewer locations for deliveries). It
is possible that the extrapolation done for expenses does not capture part of what
will remain (in terms of expenditures) after a system redesign. Of course, any
savings that might result from those system changes are likely to materialize over
time and would not be immediately realized by the County. It is also notable that
should the employee complement be reduced, there will likely be one-time costs
associated with vacation and other pay-outs.
Debt Impact
Material changes to Pledged Revenues requires majority bond holder approval,
trustee approval, and carries the risk of a credit rating downgrade and bondholder
legal action. Bond Counsel involvement will be necessary. The debt impact is
significant, including a likely credit rating downgrade. Unless lower net profits are
balanced by additional expenditure efficiencies or revenues, the result will be lower
debt service coverage, but still greater than 2.0x MADS. As with other changes that
carve out some of the existing system monopoly, bond counsel involvement will be
necessary.
It should also be noted that the trust agreement defines Pledged Revenues as all
revenues of the Montgomery County Department of Liquor Control as and when
transferred to the general fund; so the County is limited by definition to what could
be used as additional Pledged Revenues. The bondholders are also secured by all
moneys and securities held under the trust agreement. This would allow the deposit
of other money with the trustee to secure the bonds, but without an amendment to
the trust agreement it would not be included in the 150% pledged revenue
calculation.
Alternatives for Fiscal Neutrality
To make this option fiscally neutral requires approximately $10.5 million in
additional revenue, lower expenses, or some combination. This option results in the
loss of a lot of DLC customers, but proportionally less sales (about 15% of sales).
While reductions of about $3 million are already assumed, largely in warehouse and
delivery operations, it is possible that some additional savings in operational expense
can be achieved.
Additionally, the use of more aggressive sales management techniques may also
produce additional profit. These actions may include allowing the use of differential
mark-up by brand and re-evaluation of the mark-down budget. These strategies

Montgomery County
September 14, 2016
Page 15

might contribute to gap-closing, however it is unlikely this gap can be closed without
supplemental revenue.
Other Impacts
Impact on customers is hard to assess and will likely vary. On-premise
establishments in other counties in the State are already being served by private
wholesalers, so there is a reasonable expectation that the system could function
without major disruption. The impact on price is difficult to determine and will
likely vary on a case-by-case basis. There have been various analyses of price impacts
from forms of privatization, but none have focused on this specific carve-out of
business.

b. Switch to private wholesale distribution of all beer and wine to both on and offpremise establishments.
The assumption of this approach is that it will provide enhanced service, selection
and pricing through private-sector wholesale. Under this approach, private beer and
wine wholesalers will service all of the DLC customers. The DLC Cost of Goods
plus freight and tax (Laid-in cost) of both beer and wine is eliminated as well as that
portion of the wholesale mark-up, warehouse operations and delivery costs
associated with beer and wine. As in Virginia, DLC would continue to provide
wholesale and retail distribution and off-premises sale of distilled spirits. This
proposal is also closest to the Chamber of Commerce proposal, however the
Chamber proposal goes one step further and allows for private wholesale (and sale)
of beer, wine and distilled spirits.
Fiscal Impact
It is estimated this option will result in a net reduction of $22.7 million to the
County. Divesting of on/off-premise wholesale sales of beer and wine will reduce
revenue from alcohol sales by $41.1 million. Expenses can be expected to be reduced
by approximately $18.4 million to account for reduced volume handled by wholesale
operations.
Liquor Control- 2016
EXPENSES
Director's Office
Administration
Licensure
Retail Operations

Current Operations
$3,197,691
$5,332,684
$1,908,685
$24,101,855

Option 1b.
$2,223,630
$3,708,275
$1,908,685
$24,101,855

Montgomery County
September 14, 2016
Page 16

Wholesale Operations
Delivery Operations
Other
Total

$11,560,190
$5,734,201
$3,679
$51,838,985

$1,005,008
$498,514
$3,679
$33,449,647

REVENUES
Alcohol Sales
Liquor Licenses
Other Fines/Forfeitures
Other Licenses/Permits
Investment Income
Misc. Revenues
Other Charges/Fees
Total

Current Operations
$82,841,627
$1,805,302
$194,402
$88,220
$30,700
$54,221
$19,220
$85,033,692

Option 1b.
$41,767,232
$1,805,302
$194,402
$88,220
$9,210
$54,221
$19,220
$43,937,806

$33,194,707
$9,828,000
$881,400

$10,488,159
$9,828,000
$881,400

$22,485,307

($221,241)

Net Revenues Available for the General

Fund
Less Debt Service (Liquor Bonds)
Less Debt Service (Master Lease)
Net Remaining Revenues for the General
Fund

As with the prior option, it is difficult to determine how redesigning processes in a

distribution chain may impact on overall system expenditures. Removing on- and
off-sale premises from the wholesale distribution process for beer and wine is a very
large change, and the resulting wholesale distribution system will be quite different
(with far fewer locations for deliveries). It is possible that the extrapolation done for
expenses does not capture what will remain (in terms of expenditures) after a system
redesign. Of course, any savings that might result from those system changes are
likely to materialize over time and would not be immediately realized by the County.
It is also notable that should the employee complement be reduced, there will likely
be one-time costs associated with vacation and other pay-outs.
The other key issue is how to address the possibility that a new, privatized system
will lead to a significant amount of recaptured (often referred to as repatriated) sales
to county residents that currently occur in other jurisdictions.
This topic is explored in a later section of the memo. However, as discussed in that
section, there are significant impediments in this particular option to full-scale
repatriation on a level that would recoup this revenue loss. It is unlikely that this gap
can be closed without supplemental revenue.
Debt Impact

Montgomery County
September 14, 2016
Page 17

Material changes to Pledged Revenues requires majority bond holder approval,

trustee approval, and carries the risk of a credit rating downgrade and bondholder
legal action. Bond Counsel involvement will be necessary. The debt impact is very
significant, and would result in multi-notch credit rating downgrade, possibly below
investment grade. Possible default with net profits barely providing 1.0x debt
service coverage. As with other changes that carve out some of the existing system
monopoly, bond counsel involvement will be necessary.
Alternatives for Fiscal Neutrality
To make this option fiscally neutral requires nearly $23 million in additional revenue,
lower expenses, or some combination of the two. It is unlikely that this wide of a
gap can be closed without significant supplemental revenue.
The use of the various management tools discussed in Option 1a would have to be
used aggressively and be supplemented by significant use of one or more of the
alcohol-related revenue initiatives outlined. In considering the use of these revenue
initiatives, it will be important to consider the impact on product price.
Price elasticity of alcoholic beverages can vary depending on a variety of market
factors. Additional analysis would be necessary to determine the extent to which the
alcohol-related initiatives can yield sufficient revenue to close the gap, or whether
other County revenue sources may have to be utilized as well.
Other Impacts
The model of privatized wine and beer while maintaining a control system for
distilled spirits is in place in multiple other jurisdictions, including the State of
Virginia. As a result, there is a fair amount of experience that suggests no major
likely service disruptions and a reasonable opportunity for the two systems to coexist. That said, there is still likely to be some variable impact on customers. There
are some that will now have to deal with multiple deliveries related to separate
product types, for example. The impact on price is difficult to determine and will
likely vary on a case-by-case basis.
c. Switch to private wholesale distribution of beer only to both on and off-premise
establishments
The assumption of this approach is that it will provide enhanced service, selection
and pricing through private-sector supplier competition. Beer is a unique alcoholic
beverage commodity. It is perishable, comes in a variety of formats, including kegs,
and has a relatively short shelf life. This approach would eliminate DLC from the
beer wholesale and retail sale of beer county-wide. The DLC Cost of Goods plus

Montgomery County
September 14, 2016
Page 18

freight and tax (Laid-in cost) of beer is eliminated as well as the wholesale mark-up,
warehouse operations and delivery costs, retail mark-up, sales tax and any discrete
retail operations costs related to case beer and kegs.
Fiscal Impact
It is estimated this option will result in a net reduction of $8.8 million to the County.
Divesting of on/off-premise wholesale sales of beer will reduce revenue from
alcohol sales by $23.2 million. Expenses can be expected to be reduced by
approximately $14.4 million to account for reduced volume handled by wholesale
operations.

Liquor Control- 2016

EXPENSES
Director's Office
Administration
Licensure
Retail Operations
Wholesale Operations
Delivery Operations
Other
Total

Current Operations
$3,197,691
$5,332,684
$1,908,685
$24,101,855
$11,560,190
$5,734,201
$3,679
$51,838,985

Option 1c.
$2,435,627
$4,061,815
$1,908,685
$24,101,855
$3,302,261
$1,638,021
$3,679
$37,451,944

REVENUES
Alcohol Sales
Liquor Licenses
Other Fines/Forfeitures
Other Licenses/Permits
Investment Income
Misc. Revenues
Other Charges/Fees
Total

Current Operations
$82,841,627
$1,805,302
$194,402
$88,220
$30,700
$54,221
$19,220
$85,033,692

Option 1c.
$59,673,611
$1,805,302
$194,402
$88,220
$20,569
$54,221
$19,220
$61,855,545

$33,194,707
$9,828,000

$24,403,601
$9,828,000

Net Revenues Available for the General

Fund
Less Debt Service (Liquor Bonds)

Montgomery County
September 14, 2016
Page 19

Less Debt Service (Master Lease)

Net Remaining Revenues for the General
Fund

$881,400

$881,400

$22,485,307

$13,694,201

As with the prior two options, it is difficult to determine how redesigning processes
in a distribution chain may impact on overall system expenditures. Removing beer
from the wholesale distribution process is a significant change, and the resulting
wholesale distribution system will be quite different (with far fewer locations for
deliveries, and different types of deliveries).
That said, beer is a different product from wine and spirits in a number of respects.
First, it is the primary reason that the warehouse (and delivery trucks) are climate
controlled. Eliminating these requirements will have some impact on overall costs
(or warehouse requirements) that are not captured in this analysis. It will also
eliminate the need for certain types of trucks and lengthen the useful life for the
remaining fleet. It is likely that the extrapolation done for expenses does not capture
these savings or what will remain (in terms of expenditures) after a system redesign.
Of course, any savings that might result from those system changes are likely to
materialize over time and would not be immediately realized by the County.
Debt Impact
Material changes to Pledged Revenues requires majority bond holder approval,
trustee approval, and carries the risk of a credit rating downgrade and bondholder
legal action. The debt impact is significant, including a likely credit rating downgrade
of one or more notches. Unless lower net profits are balanced by additional
expenditure efficiencies or revenues of the DLC, the result will be lower debt service
coverage, but still greater than 2.0x MADS. As with other changes that carve out
some of the existing system monopoly, bond counsel involvement will be necessary.
Alternatives for Fiscal Neutrality
To make this option fiscally neutral requires approximately $8.8 million in additional
revenue, lower expenses, or some combination. Gap-closing approaches for this
amount are similar to those outlined in the discussion of fiscal neutrality alternative
options for Option 1a. They include a variety of sales management actions and/or
imposition of new revenues. However, it is unlikely that this gap can be closed
without supplemental revenue.
Other Impacts
Impact on customers is hard to assess and will likely vary. There is already private
competition for beer products, and there is an indication from the DLC that they
have intentionally not sought to carry a wider variety of product in their stores so as
to not undercut private stores. On-premise sale establishments in other counties in

Montgomery County
September 14, 2016
Page 20

the State are already being served by private wholesalers, so there is a reasonable
expectation that the system could function without major disruption. Beer as a
product already operates on thin profit margins, and it is likely that price changes in
this area will not be significant.
d. Special-order beer and wine to both on and off-premise establishments
The assumption of this approach is that it will provide enhanced service and
selection through private-sector suppliers that can be more responsive to the needs
of licensees and consumers.
This alternative would result in the direct delivery of any beer or wine product, not
in-stock in the DLC warehouse, to on-premises establishments and to DLC retail
stores for pick-up by individual consumers. The DLC Cost of Goods plus freight
and tax (Laid-in cost) of special order beer and wine is eliminated as well as the
wholesale mark-up, warehouse operations and delivery costs associated with these
items. The retail mark-up and collection of sales tax by the DLC retail stores
remains.
The shift of this relatively small portion of the DLC wholesale book of business,
while feasible, even positive, from a logistics perspective poses possible supply chain
risks. Private wholesalers may be reluctant to pick up only this small and relatively
labor-intensive element of the business, or may not offer optimal pricing for this
component. If this option is selected, discussion with the wholesale supplier
community prior to implementation are advised.
Fiscal Impact
It is estimated this option will result in a net reduction of $6.1 million to the County.
Divesting of on/off premise special order beer and wine will reduce revenue from
alcohol sales by $7.6 million. Expenses can be expected to be reduced by
approximately $1.4 million to account for reduced volume handled by wholesale
operations.
Liquor Control- 2016
EXPENSES
Director's Office
Administration
Licensure
Retail Operations
Wholesale Operations
Delivery Operations
Other

Current Operations
$3,197,691
$5,332,684
$1,908,685
$24,101,855
$11,560,190
$5,734,201
$3,679

Option 1d.
$3,122,230
$5,206,840
$1,908,685
$24,101,855
$10,742,471
$5,328,587
$3,679

Montgomery County
September 14, 2016
Page 21

Total
REVENUES
Alcohol Sales
Liquor Licenses
Other Fines/Forfeitures
Other Licenses/Permits
Investment Income
Misc. Revenues
Other Charges/Fees
Total
Net Revenues Available for the General
Fund
Less Debt Service (Liquor Bonds)
Less Debt Service (Master Lease)
Net Remaining Revenues for the General
Fund

$51,838,985

$50,414,347

Current Operations
$82,841,627
$1,805,302
$194,402
$88,220
$30,700
$54,221
$19,220
$85,033,692

Option 1d.
$75,258,994
$1,805,302
$194,402
$88,220
$26,095
$54,221
$19,220
$77,446,453

$33,194,707
$9,828,000
$881,400

$27,032,107
$9,828,000
$881,400

$22,485,307

$16,322,707

As with the other options in this category, it is difficult to determine how redesigning
processes in a distribution chain may impact on overall system expenditures.
Removing special orders is not as significant a component of overall sales as the
other options in this category, but it may very well be more time consuming than
other types of orders (because of its special nature). It is likely that the
extrapolation done for expenses does not fully capture the entirety of the time spent
for this type of order. Of course, any savings that might result are likely to
materialize over time and would not be immediately realized by the County. It is also
notable that should the employee complement be reduced, there will likely be onetime costs associated with vacation and other pay-outs.
Debt Impact
Material changes to Pledged Revenues requires majority bond holder approval,
trustee approval, and carries the risk of a credit rating downgrade and bondholder
legal action. The debt impact is significant, including a likely credit rating
downgrade. Unless lower net profits are balanced by additional expenditure
efficiencies or revenues of the DLC, the result will be lower debt service coverage,
but still greater than 2.0x MADS. As with other changes that carve out some of the
existing system monopoly, bond counsel involvement will be necessary.
Alternatives to Fiscal Neutrality
To make this option fiscally neutral requires slightly more than $6 million in
additional revenue, lower expenses, or some combination. Gap-closing approaches
for this amount are similar to those outlined in the discussion of fiscal neutrality

Montgomery County
September 14, 2016
Page 22

alternative options for Option 1a. They include a variety of sales management
actions and/or imposition of new revenues; however, it is unlikely that this gap can
be closed without supplemental revenue.
Other Impacts
There is significant complexity related to changes in product lines that will be
difficult to manage under this approach. For example, products get listed and
delisted on a regular basis, and how those changes would impact on who provides
product would be hard to track for customers, private wholesalers and the DLC.
The result may well be service disruptions that the process is meant to eliminate or
ameliorate.
Experience with other control systems is that they generally stock a larger number of
SKUs and will more readily do special orders than privatized systems. It is an open
question as to whether the process (or selection) would be improved with private
wholesale. However, there may be specialty wine providers who can expedite the
process. Based on system requirements, however, this usually comes at a cost that
must be passed along to consumers. In some cases, however, this may be an
acceptable pass through in return for better product availability.
Option Two: Private Management/Public-Private Partnership
a. Private Management Contract:
The assumption of this approach is to allow for a range of activities related to the
administration and management of DLC operations and functions to be performed
by a private partner experienced in the sale and distribution of spirits, wine and beer.
Under this approach, a management contract would be executed with a private
provider to provide industry-experienced senior management level personnel to
assume the responsibilities of the day-to-day management of the distribution and sale
of spirits, wine and beer on behalf of the DLC consistent with industry standards.
The private provider would develop a marketing and retail outlet expansion plan and
strategy to optimize the controlled and socially responsible sale of spirits, wine and
beer. They would be authorized to procure separate from the Countys procurement
process for equipment, retail space, technology, vehicles, product, etc. The private
provider would assume full responsibility and accountability for DLC facilities,
physical assets, equipment, vehicles and product inventory; the County would retain
ownership of all DLC assets and retain control over DLC policy decisions,

Montgomery County
September 14, 2016
Page 23

enforcement of liquor laws, approval of licenses, labor relations and collective

bargaining.
There would be no change in DLC employee salary or benefits, and the private
provider would be subject to the terms of any collective bargaining agreement
applicable to these employees.
The County would compensate the private provider directly from revenues
generated by the DLC by either a fixed administrative/management fee, bonus
system or a combination of both, subject to IRS restrictions.
It is notable that no control jurisdiction has engaged a private management company
to provide the recommended scope of services. There are private contracts for
services within control states for various components of the wholesale and/or retail
operation (including warehouse, transportation and retail sales) but none that offer
the full scope of services as proposed.
An example of private management that involves significant control of a public
sector asset relates to convention centers. In many (if not most) cases, convention
centers are public facilities that are constructed with a major (and in some cases
primary) source of funding coming from the issuance of tax exempt bonds. That
funding mechanism contains notable IRS restrictions on private management
contracts for these facilities; in many respects, that is a situation that is similar to
what exists in Montgomery County, because tax exempt bonds were issued to
construct the existing DLC warehouse.
The IRS regulations in this area were recently revised (effective August 22, 2016).
The new regulations are more flexible than those that had been in place since 1997.
Most notably, the new regulation permits any type of reasonable fixed or variable
compensation for services provided pursuant to a management contract with a term
of up to the lesser of 30 years or 80% of the weighted average reasonably expected
economic life of the managed property.
It is also notable that the County must be able to demonstrate that it has a significant
degree of control over the use of the managed property. This requirement is met if,
with respect to the managed property, the contract requires the County to approve
the annual budget, capital expenditures, each disposition of related property, rates
charged for use, and the general nature and type of use (e.g., the type of services
provided to the managed property)..6
6

See, for example, Management Contracts and Private Business Use: IRS Releases Favorable Guidance, The National Law Review, September
9,2016, accessed electronically at http://www.natlawreview.com/article/management-contracts-and-private-business-use-irs-releasesfavorable-guidance.

Montgomery County
September 14, 2016
Page 24

Fiscal Impact
Because of the lack of other examples of private management in the liquor control
industry, it is difficult to determine a likely fee (or possible performance-based
compensation) for such a private management operation. It is likely, however, that
the private management partner would replace some of the duties currently held by
DLC executives, which means that the overall fiscal impact will, in some respects, be
mitigated. There can also be some expectation that the private management may be
able to initiate system improvements that will balance out some of the cost of the
contract and if they cannot, one of the primary rationales for the approach is lost.
Examples of existing private management contracts for convention center
management:

Hartford Convention Center $170,000 plus performance incentives for revenue

growth over benchmark up to 100 percent of base fee
LA Convention Center $175,000 plus performance incentives up to 50 percent
of base fee
Palm Springs Convention Center $210,000 plus performance incentives up to
100 percent of base fee
Pennsylvania Convention Center $300,000 plus performance incentives up to
100 percent of base fee
Oklahoma City Convention Center $319,400 plus performance incentives up to
65 percent of base fee.

It is notable that several of these facilities are union facilities, such as the Pennsylvania
Convention Center and the LA Convention Center. In this respect, the private
management company deals with many of the same challenges as the DLC in
Montgomery County.
While the examples provide some indication of private management contracts and
the performance-based components, there is no real way to determine what would
be the likely similar sort of contract for a liquor control system.
This lack of experience or expertise related to private management of a liquor
control system is a concern. It is possible that some of the economies of scale
savings from some private management operations would not materialize as a result
of this lack of sector involvement. As with any of these types of agreements,
identifying tangible performance criteria for incentive compensation is a critical issue.
Debt Impact

Montgomery County
September 14, 2016
Page 25

Unclear based on the lack of prior history. The management contract itself will need
to be thoroughly vetted by bond/tax counsel.
Alternatives to Fiscal Neutrality
Some combination of management approaches already discussed could be used.
Other Impact
This is, of course, primarily a change in the manner in which the organization
functions and where decision making resides. At the same time, there are costs
associated with a private provider that dont necessarily exist in the public sector. To
the extent that a well-structured contract has performance-based metrics and the
chosen provider has the ability to attain them, there is a reasonable expectation of
positive impacts. However, this is necessarily unclear based on the lack of prior
history.
b. Maine Model
The assumption of this approach is that the County would enter into a Public Private
Partnership (P3) for a private partner to provide warehousing and transportation
services for the DLC in return for a percentage share of DLC receipts. This is the
model that Maine has used for two 10-year P3 contracts.
In 2004, the State of Maine signed a 10-year lease with Maine Beverage Company to
be responsible for warehousing and delivery of distilled spirits and fortified wines to
agency stores throughout Maine. According to a variety of published reports, Maine
Beverage was awarded the contract for an upfront payment of $125 million. The
contract guaranteed Maine Beverage payments of 36.8 percent of annual sales. From
2004 through 2012, the company collected about $339 million in gross profits, after
revenue sharing, according to data provided by the state. According to one report, the
state received about $190 million over the 10-year contract, including the upfront
payment of $125 million.7
There was, in following years, significant dissatisfaction with the financial terms of the
2004 contract. The State commissioned a study, done by Deloitte and Touche LLP,
which was released in March 2009. Based on their research and analysis, Deloitte and
Touche arrived at a blended fair market value of $378 million. According to the report,
this represents the cash consideration that could be negotiated for a sale of the whole

See Maine Awards Wholesale Liquor Contract to Augusta Company, Maine Sunday Telegram, January 10, 2014, accessed electronically at
http://www.pressherald.com/news/State_awards_wholesale_liquor_contract_.html?pagenum=full

Montgomery County
September 14, 2016
Page 26

business between a willing buyer and willing seller as of January 1, 2009, irrespective
of the terms of the current Contract.8
After an RFP process, in February 2014, the State awarded a contract to Pine State
Trading Company for warehousing and distribution services for the next 10 years,
effective on July 1, 2014. At the time of the agreement, the new contract was expected
to yield up to $450 million in revenue over the next 10 years.9 The additional revenue
is expected to result from a lower-cost wholesale distribution deal. Under the new
contract, Pine State will be paid a fee equal to a percentage of net sales but the state
will receive the profits.10
In fact, the first year totals for the new contract surpassed expectations. The first year
of the contract (for the fiscal year ending June 30, 2015), saw a 4.6 percent sales
increase over the previous year and generated a $46 million operating profit, based on
sales of $155.5 million. For the fiscal year, the State paid Pine State roughly $9.5
million.11
The Maine contract is split into two components: Part A covers warehousing and
distribution and Part B covers marketing and related activities. The cost of the
contract for Part A is 4.7 percent of net sales; Part B is approximately 1.5 percent of
net sales.12
It should be noted that the Maine P3 provider runs a private warehouse. The
employees in both the warehouse and transportation operations are not State
employees.
It is, of course, difficult to make a determination of what Montgomery County might
obtain in terms if it were to seek a contract similar to Maines 2014 contract.
Montgomery County gross sales (net of taxes) were $300.1 million in FY2016; 6.2
percent of Montgomery Countys gross sales for FY2016 would have totaled $18.6
million. From a review of current budgets, approximately $18.2 million is dedicated
to these activities in Montgomery County (not including associated indirect costs).

Deloitte and Touche LLP, State of Maine Liquor Business Analysis and Valuation Final Report, March 11, 2009, p. 23. Accessed electronically
at http://www.mainebiz.biz/assets/pdf/ma175121.pdf
9

Email to PFM from Tim Poulin, Acting Director, Maine Bureau of Alcoholic Beverages and Lottery Operations, April 14, 2014.

10

Maine Awards New 10-year Liquor Contract, Expects to Double Return, Bangor Daily News, April 6, 2014.

11

It is notable that in September 2013, Maine pledged its future profits from the sale of liquor as collateral for a $220 million revenue bond
that was used to repay $183.5 million in outstanding debt to Maine hospitals. Maine gets $46 million from liquor sales in first year of new
contract, Portland Press Herald, September 17, 2015, accessed electronically at http://www.pressherald.com/2015/09/17/maine-liquor-salesexceed-expectations/
12

Email to PFM from Tim Poulin, Acting Director, Maine Bureau of Alcoholic Beverages and Lottery Operations, April 14, 2014.

Montgomery County
September 14, 2016
Page 27

There are several factors that suggest a straight calculation based on gross sales in
Maine and Montgomery County is not an apples to apples comparison of likely costs.
First, Maine has 425 Agency Stores,13 which is not readily comparable to Montgomery
Countys 25 retail off-premise stores, as more stores means more deliveries. Finally,
Maine is a much, much larger geographic area with 30,842 square miles it dwarfs the
size of Montgomery County. It should be noted that Maines wholesale vendor
maintains a bailment warehouse and charges fees for handling and storage (up to $1.00
per case for handling); Montgomery County has not done so in the past.
Given these differences, it would appear reasonable to expect that Montgomery
County might be able to obtain a gross sales percentage rate that is lower than 6.2
percent. Based on FY2016 sales net of taxes, the following table suggests a possible
range of costs for private provision of services:
Range of Costs for DLC Services Based on Percentage of Gross Sales
Sales Net of
Taxes, 2016

Wholesale Percent
of Gross Sales

Cost for
Services

$300,000,000

6.2 percent

$18,600,000

$300,000,000

3.6 percent

$10,800,000

$300,000,000

1.8 percent

$5,400,000

It should also be kept in mind that the Maine 2014 contract includes fees for bailment
at the vendors private warehouse, and those bailment fees are to be paid to the State
of Maine. Those fees are generally in the range of $1 per case; the State of Maine
estimates that they will generate $1-2 million a year from bailment fees.14
There are already private wholesalers providing wine and beer to licensees for offpremise consumption; it may well be that there would be interest from these operators
in provide similar services but there is no guarantee that this will be the case.
There are a number of issues that would have to be clarified to determine impacts
from this approach. It is not clear, for example, whether the P3 would continue to
use the County warehouse and county employees or whether the P3 company would
use its own facilities and employees. This will, of course, change the likely percentage
of revenue that a P3 company would negotiate for its services. It would also change
the labor dynamic for the County.
Fiscal Impact
13 Maine Beverage Company,
14

http://www.mainebeverage.com/absolutenm/templates/faq.aspx?articleid=17&zoneid=13

Phone interview with Maine Bureau of Alcoholic Beverages and Lottery Operations Acting Director Tim Poulin, April 18, 2014.

Montgomery County
September 14, 2016
Page 28

Under the approach used for the Maine P3, all DLC warehousing and distribution
activities would cease and only its retail operations would remain. The DLC Cost of
Goods plus freight and tax (Laid-in cost) is eliminated as well as the wholesale markup, warehouse operations and delivery costs. Retail operations costs as well as retail
mark-up and sales tax revenues would remain. The final fee structure will determine
the estimated fiscal impact. Removing wholesale operations and associated indirect
costs reduces expenses by $20.1 million. If the private fee for wholesale operations
was 6.2% of gross sales, then the private fee would equal $18.6 million.
Liquor Control- 2016
EXPENSES
Director's Office
Administration
Licensure
Retail Operations
Wholesale Operations
Delivery Operations
Other
Total

Current Operations
$3,197,691
$5,332,684
$1,908,685
$24,101,855
$11,560,190
$5,734,201
$3,679
$51,838,985

Option 2b.
$2,130,885
$3,553,608
$1,908,685
$24,101,855
$0
$0
$3,679
$31,698,712

REVENUES
Alcohol Sales
Liquor Licenses
Other Fines/Forfeitures
Other Licenses/Permits
Investment Income
Misc. Revenues
Other Charges/Fees
Total

Current Operations
$82,841,627
$1,805,302
$194,402
$88,220
$30,700
$54,221
$19,220
$85,033,692

Option 2b.
$82,841,627
$1,805,302
$194,402
$88,220
$30,700
$54,221
$19,220
$85,033,692

$33,194,707
$9,828,000
$881,400
$0
$22,485,307

$53,334,979
$9,828,000
$881,400
($18,600,000)
$24,025,579

Net Revenues Available for the General Fund

Less Debt Service (Liquor Bonds)
Less Debt Service (Master Lease)
Less Private Management Fee
Net Remaining Revenues for the General Fund

Montgomery County
September 14, 2016
Page 29

Debt Impact
Could be significant, depending on the share of revenues shared with the P3
company. Private use issues would need to be thoroughly vetted by bond/tax
counsel and would depend on the terms and conditions of the P3. May require a
partial or full defeasance of outstanding tax-exempt debt.
Other Impacts
The system is in many respects a hybrid of a control system with private sector
engagement at the wholesale level but with contract requirements (as opposed to
market-based functioning) to address performance. Of course, those who
like/dislike the current County retail store operation will likely continue to have the
same views on the revised system. A P3 contract will still need strong performance
standards there are metrics in the Maine contract related to delivery times, errors,
orders, handling, etc. There is no guarantee, of course, that the private vendor will
provide good service and there are control states that have switched back from, for
example, private transportation to state owned fleets because of concerns about
service and cost effectiveness.
Option Three: Establish a Liquor Authority
The assumption of this approach is to formally separate the alcoholic beverage
enterprise and its related debt from County government agencies by creating a public
benefit corporation that could in some ways be similar to the Montgomery County
Revenue Authority (although, for example, labor characteristics might be different).
In addition to the formal separation, creation of a separate public corporation would
retain the transparency and control of a government entity while recognizing the
unique mission of the agency and providing it with the necessary flexibility to
effectively serve the public.
Under this approach, all DLC warehousing and distribution and retail operations
would continue to operate in basically the same fashion, albeit under the auspices of
a public authority. The advantages of this approach lie in more efficient
procurement of products, more flexibility in the hiring process, and the opportunity
for innovation in pricing, merchandising and management.
The new public corporation would be created as an instrumentality of Montgomery
County, with a Board appointed by the County Executive and a CEO appointed by
the Board. While the Authority employees would retain their current collective
bargaining rights and representation, the Authority would be able to institute, or
bargain for, some flexibility such as use of part-time and/or contract employees that
could help achieve scheduling efficiencies.

Montgomery County
September 14, 2016
Page 30

Prior adopted and proposed County Authorities have adopted different models
related to collective bargaining and civil service. The issue of whether or not this
Authority would have unionized employees and would be subject to collective
bargaining would need to be determined. It is envisioned that the Authority would
be exempt from many County procurement regulations.
To preserve accountability, the Authority would devise public reporting and other
transparency actions. The Authority would have control of all current DLC
marketing, distribution and sales operations, but not the Departments regulatory or
licensing activities, which would remain with DLC.
The Authority would continue to have a monopoly on the provision of alcoholic
beverages and retail stores that sell the combination of beer, wine and liquor. It
would be authorized to issue taxable and tax exempt debt, secured by the net profit
of alcohol sales. Initially, this Authority debt may replace the current liquor bonds.
The authority model is intended to increase DLCs market and operational agility.
For example, it could streamline actions such as procurement or disposal of real
property, vehicles, materials and equipment as well as purchase of alcoholic beverage
products.
While there is no hard data to analyze, it is possible that there would be some
operational efficiencies as a result of an enhanced capacity to bargain with vendors
and impose some operational efficiency, which would have a slight positive impact
financially. The cost of debt service is discussed later. The determination of the
Authority model as it relates to union employees and collective bargaining may also
directly impact on the Authority cost structure.
The DLC Cost of Goods plus freight and tax (Laid-in cost) is essentially unchanged,
as is the wholesale mark-up, warehouse operations and delivery costs. Retail
operations costs as well as retail mark-up and sales tax revenues would also remain.
Fiscal Impact
Neutral to slightly positive. The DLC Cost of Goods plus freight and tax (Laid-in
cost) is essentially unchanged, as is the wholesale mark-up, warehouse operations and
delivery costs. Retail operations costs as well as retail mark-up and sales tax revenues
would also remain. There should be a marginal increase in sales and efficiency as a
result of an enhanced capacity to bargain with vendors and impose some operational
efficiency, which would have a slight positive impact financially. However, without
more definition of the Authoritys structure and operational data, the exact fiscal
impact cannot be calculated.

Montgomery County
September 14, 2016
Page 31

Debt Impact
Not significant if done right. Debt would continue to be treated as self-supporting
revenue debt and would not impact tax-supported debt and debt affordability
measures. This option may require, or the Authority may elect to execute, a partial
or full defeasance of the current outstanding tax-exempt debt. In such a case, the
new Authority-issued debt would provide all of the funds necessary to complete the
transaction.
Other Impacts
There is little change to the current system, so existing impacts would likely continue
at least in the short-term. The goal, of course, would be better operations that
ameliorate present concerns, but there is no guarantee of that.
Option Four: Full Privatization
The assumption of this approach is to entirely privatize the wholesale distribution
and retail sale of alcoholic beverages in Montgomery County. This would align the
County with most other counties in Maryland. Additionally, this move would
eliminate the perceived conflict between DLCs regulatory and consumer/public
protection roles and at the same time having a business relationship with licensees.
While there are many variations, the approach selected for this analysis would call for
the creation of County licenses for the wholesale sale and distribution of alcoholic
beverages and for the retail sale of beer, while and spirits for off-premises
consumption. These new licenses would be issued by DLC and the number of retail
licenses would be limited based on certain per capita population limits.
Under this approach, after appropriate state and local legislation is in place, there
would be some transition period that would allow for the smooth transfer of
wholesale supply and retail outlets to private entities, along with the disposition of
DLC inventory in the warehouse and stores and the transition of the 427 full time
equivalent employees. This unwinding process will take from 12 to 24 months to
complete, depending on a variety of factors.15
The wholesale supply chain is already in place in the District of Columbia and
surrounding counties. Maryland law is also pretty clear governing wholesalers.
Accordingly, from a market perspective, this is likely to be the easiest component of
the transition (and license if the County chooses). This transition also involves a
15

It is notable that the State of Washington entirely privatized its system in less than a year, under timelines that were specified in the ballot
measure that privatized the state system. Earlier, the State of Iowa dismantled the majority of its retail system in a one-month time period.

Montgomery County
September 14, 2016
Page 32

smaller component of employees (about 150 FTEs between warehouse and delivery
operations).
Retail stores are the most complex transition because it involves the need to
quantify, license and develop the retail outlet infrastructure and then manage a phase
in/phase out process that assures continued consumer access. At about 240 FTEs,
retail employees are also the largest component of DLC personnel. Additionally,
lease termination and inventory management can be demanding during this process.
Lastly, administration and back office positions are typically the last part of the
transition as they are required to manage the transition process and liquidation of
assets.
Post transition, DLC would become a policy, regulatory and enforcement agency
with about 30 employees (depending on decisions made to enhance the enforcement
staffing).
It is notable that the Chamber of Commerce proposal is something of a hybrid: it
also privatizes wholesale in its entirety and allows private retail of all three products
(beer, wine and distilled spirits). It does not, however, require the County to divest
itself of its retail stores.
Fiscal Impact
Very Significant. To determine the fiscal impact, PFM examined a large volume of
information supplied by DLC. PFM also used Montgomery County budget and
CAFR documents. To discuss the potential issues and impacts, a significant amount
of research was reviewed regarding other control jurisdictions, including those such
as Washington State that has recently changed their system. Lastly, PFM reviewed
the other presentations already made to the Work Group.
Post transition, DLC will have expenditures in the range of $4 million and revenues
of $2.0 $2.5 million, requiring net county funding of around $1.5 - $2 million.
From the FY 2016 baseline, the county would lose all of the $32.6 million
transfer/debt service payment. Combined with the operational funding need, this
change would represent roughly a $34.6 million budget loss.
Liquor Control- 2016
EXPENSES
Director's Office
Administration
Licensure
Retail Operations

Current Operations
$3,197,691
$5,332,684
$1,908,685
$24,101,855

Option 4.
$644,161
$1,074,246
$1,908,685
$0

Montgomery County
September 14, 2016
Page 33

Wholesale Operations
Delivery Operations
Other
Total
REVENUES
Alcohol Sales
Liquor Licenses
Other Fines/Forfeitures
Other Licenses/Permits
Investment Income
Misc. Revenues
Other Charges/Fees
Total
Net Revenues Available for the General Fund
Less Debt Service (Liquor Bonds)
Less Debt Service (Master Lease)
Net Remaining Revenues for the General Fund

$11,560,190
$5,734,201
$3,679
$51,838,985

$0
$0
$3,679
$3,630,771

Current Operations
$82,841,627
$1,805,302
$194,402
$88,220
$30,700
$54,221
$19,220
$85,033,692

Option 4.
$0
$1,805,302
$194,402
$88,220
$0
$54,221
$19,220
$2,153,337

$33,194,707
$9,828,000
$881,400
$22,485,307

($1,477,434)
$9,828,000
$881,400
($12,178,806)

The one-time revenues from asset sales, mainly the DLC warehouse facility and fleet,
as well as revenue from the auction of wholesale and/or retail licenses would be used
to mitigate the cost of debt refinancing discussed below and potentially to reduce the
principal amount. One-time receipts from liquidation of other vehicles and
equipment, store fixtures and residual inventory is expected to be offset by one-time
expenses of lease penalties as well as unemployment and other costs of severance.
The question remains regarding the level of increased revenue resulting from new
economic activity in alcohol sales and expansion of the hospitality industry in
Montgomery County. This topic is explored in a following section of the memo.
Based on an analysis of the existing State law and the surrounding market
environment, PFM does not believe that economic activity will compensate for the
budget loss of over $40 million annually. Consequently, in order to make
privatization fiscally neutral, the County will need to enact additional revenue
measures.
Debt Impact
Very Significant. Outstanding tax-exempt debt allocable to the warehouse would
need to be (i) paid off, (ii) refinanced with taxable bonds payable from a new funding
source. Outstanding tax-exempt debt allocable to road projects would need to be (i)
paid off, or (ii) refinanced with tax-exempt bonds payable from a new funding

Montgomery County
September 14, 2016
Page 34

source. As noted above, proceeds from a privatization / long-term lease concession

of the warehouse as well as possible license auction revenue may be used to pay off
the debt.
Alternatives to Fiscal Neutrality
There are some opportunities to gain additional revenue through licenses of retail
operations. The following table identifies retail licenses in other Maryland Counties:
County
Anne Arundel
Baltimore
Howard
Prince Georges
Queen Anne

Class A License
$720
$900
$700
$910
$2,000

Sunday Sales (additional)

$200
$2,590

PFM has analyzed opportunities to obtain higher license fees when a system
privatizes. If it is possible to go to a fee of, for example, $5,000 for a class A license,
it may be possible to generate $1-2 million from this source. Of course, this is still
insignificant versus the overall lost revenue, but it could be part of a developed
revenue package.
In short, full privatization will require at least in the short-term (and likely much
longer) the use of additional revenues.

Other Impacts
There are a variety of impacts that can be considered both positive and negative
based on ones perspective. Key impacts generally related to system changes that
impact price and convenience.
On convenience, most privatized systems result in an increase in retail outlets. This
varies depending on the regulations put in place, including possible quotas on the
number and type of retail locations. On the other hand, some states do not impose
any restrictions on the number of licenses (other than the ability to meet license
requirements and qualifications). Besides location, the system hours of operation are
a key consideration for convenience; often the privatized system will provide greater
hours of operation particularly in systems where grocery and other stores are major
retailers and tend to be open later hours than control stores.

Montgomery County
September 14, 2016
Page 35

On price, the most recent evidence, in the State of Washington, is that there was a
significant price increase in the first year according to the State Department of
Revenue, approximately 12.5 percent. However, prices stayed level in the second
and beginning of the third year.16 This was largely the result of new taxes imposed to
make the new system revenue neutral. It is notable that spirits sales in the new
system rose just 1.5 percent from FY2012 to FY2014; of course, this is likely a
combination of price increases mitigating sales growth (there was evidence of
increased cross border sales in both Oregon and Idaho) and greater convenience.
It is notable that when PFM has modeled price changes with system change to
privatization, some of the efficiencies that can be obtained by use of grocery stores
and other large retailers (who already have supply chains in place and efficient
staffing models) are not possible because of Maryland prohibitions on size of retail
space for liquor and types of businesses that can obtain retail licenses.
Option Five: Bailment approach for warehouse
The goal of this option would be to shift costs associated with maintaining the liquor
controls inventory from the County to manufacturers of beer, wine and distilled spirits.
This is commonly known in the industry as a bailment model.
The term "bailment" refers to the delivery of personal property by a bailor (in this case the
manufacturer or supplier of wine and distilled spirits) to a bailee (in this case, the DLC) for
specific purposes under an express or implied agreement of both parties.17 In the case of
alcohol stored in the County warehouse, the manufacturer ships sufficient quantities of
product to the liquor control warehouse but still own the product until it is transported to a
retail location for sale.18 Bailment is considered an industry standard practice, as it improves
operational cash flow by reducing the investment in inventory.
The bailment method is commonly used by states that control the wholesale operation. In
fact, Pennsylvania was the last control state to switch to the bailment method, which it
accomplished in 2012. In the case of Pennsylvania, their liquor control board does not assume
ownership of the product until it is picked for shipment in its state warehouse. According to
the Pennsylvania Liquor Control Board, its switch to bailment resulted in a reduction in its
working capital of approximately $100 million in Fiscal Year 2012.19
16

Washington State Department of Revenue, various datasets.

17

Definition taken from Iowa Alcoholic Beverages Division, http://www.iowaabd.com/alcohol/features/listing/bailment_invent_system

18

It is notable that the exact point in time where the liquor control jurisdiction takes ownership varies. In some jurisdictions, it is at the point
when the product leaves the warehouse; in other locations, it is not until it has been sold at the retail location.
19

Prior to bailment, Pennsylvania typically held between $120 and $200 million in warehouse inventory (with annual sales of over $2 billion). A
discussion of the switch to bailment can be found at http://www.supplychainbrain.com/content/research-analysis/supply-chaininnovators/single-article-page/article/alcohol-control-authority-toasts-vendor-managed-inventory-system-1/

Montgomery County
September 14, 2016
Page 36

Besides the inventory investment savings, several bailment states charge manufacturers rent
based on the product stored in their facility (generally on a per case basis). Those fees are
generally in the range of $1 per case.20
For Montgomery County, one method to deal with concerns about the length of time to fill
special orders would be to increase its listing of regularly stocked items. Because under
bailment the County would not own the product, slow moving items would not carry the same
opportunity cost as they currently do. In this case, it would be the manufacturer that would
bear this cost. Given the fact that the Countys annual liquor revenue is comparable with
some of the smaller control states, this would seem to be a viable option.
It would also be worth considering if the County would wish to modify its current policy of
only ordering quantities by the case. Montgomery County is one of only five jurisdictions that
require full case orders from manufacturers.21 Among the States that permit ordering and
shipment of split cases, there are a variety of rules and requirements related to minimum and
maximum orders, frequency of delivery and additional charges. While seven states do not
charge for these orders,22 five do.23 The most common charge (imposed by three of the five
states) is $0.50 per bottle.
Of course, warehouse space is limited, and increasing the SKUs may create storage issues,
particularly for slow moving inventory. If combined with other changes particularly moving
out of the wholesale beer business this could be an alternative that is cost effective and
benefits consumers.
Fiscal Impact
Likely a one-time positive impact. It is likely that the system holds about 1/10th of its annual
sales as inventory, and some portion of that (depending on age and other characteristics) could
be liquidated over time.
Debt Impact
No significant impact.
Other Impact
To the extent it reduces special orders, it should have a positive impact on that aspect of the
system.
20

According to the NABCA 2012 Survey book (pp. 244-245), state bailment fees per case are $0.90 (Alabama), $1.00 (Iowa), $1.10 (Maine),
$1.20 (New Hampshire), and $1.60 (North Carolina). This equates to an average of $1.16 per case.
21

NABCA Survey Book 2012, pp 251-252. The five are the States of Alabama, Iowa, North Carolina and Pennsylvania and Montgomery County,
Maryland.
22

Ibid. The states that do not charge for split cases are Maine, Michigan, Montana, Oregon, and Utah.

23

Ibid. The states that charge for split cases are Idaho, Iowa, Mississippi, New Hampshire and Wyoming.

Montgomery County
September 14, 2016
Page 37

Repatriation
A major crux of the argument for the various privatization approaches is that it will lead to a
significant increase in sales in Montgomery County that currently occur in other jurisdictions. This
recapture is referred to in the industry as repatriation.
Repatriation is a complex topic that requires a careful analysis of a variety of factors. The general
argument for repatriation is that, in particular, sales of beer and distilled spirits in the County are
below those of other comparable counties, and based on per capita income, Montgomery County
residents are likely making additional purchases in other jurisdictions. It is generally the case that
consumer expenditure surveys (such as that conducted by the BLS) suggest that higher income
individuals spend a greater share of their income on alcohol, and these surveys would support an
argument that Montgomery County residents are purchasing alcohol in other jurisdictions.
However, identifying the fact that Montgomery County residents are likely making purchases outside
the County does not provide direct evidence for how much repatriation might occur from a system
change. This is a complex issue that relies on an analysis of price, convenience, location and the
ability of those factors to alter consumer behavior. Claims that privatization alone would, for
example, return Montgomery Countys purchasing patterns to those of similarly high income
counties are overly simplistic. Still, repatriation should not be dismissed out of hand many
sophisticated analyses make a strong case for some level of restored sales in a different system
(particularly where convenience is increased and price increases are mitigated), but the actual level is
often overstated by reliance on the general rather than the specific instance.
In a December 22, 2015 report by the State Comptrollers Bureau of Revenue Estimates, The
Economic Impact Analysis: Private Sector Competition, Montgomery County Alcohol Sales and Distribution, the
Comptroller argues that, By removing these barriers to brand competition, it is expected that
Maryland would experience an estimated $193.7 million in new economic activity. Moreover, it is
estimated that 1,364 jobs will be created, generating $52.6 million in new wages. This appears to be
the sort of straight-line extrapolation that does not take into account unique features of the County
and the State. Some of the factors that suggest this extrapolation is overly optimistic follow.
First, repatriation will be influenced by County policy decisions such as license density (how many
licenses will be permitted in the county). The 25 existing DLC stores represent about one store for
approximately every 40,000 people or 25,000 people over 21. The County could chose to limit offpremises licenses to the existing ratio, lower the ratio or place no limit at all and let market forces
dictate the level of outlets. Should restrictions be put in place, it will limit convenience. Further,
Maryland law places restrictions on the types of stores that are eligible for Class A licenses, including
no big box retailers and limited grocery chains, etc. This will have a significant impact on factors
that impact consumer behavior, as well as on efficient pricing.

Montgomery County
September 14, 2016
Page 38

These restrictions also limit the Countys revenue options by reducing the capacity for licensees to
absorb alcoholic beverage related taxes or fees. To absorb additional costs, beverage retailers need
to have either pricing power or the ability to create efficiencies. The fact that Montgomery County
borders a number of jurisdictions with competing private systems that already have a portion of the
Montgomery consumer market makes passing along additional governmental costs in the retail price
problematic. Moreover, the types of retailers most able to achieve efficiencies are big box retailers,
grocery and large format wine and liquor outlets all of which are heavily restricted under Maryland
law.
Other factors come into consideration as well. For example, it will be impossible to entirely
repatriate sales occurring in the District of Columbia (DC). In nearly every discussion of locations
where per capita consumption does not equate with typical statistics, DC and Las Vegas are
generally at the top of the list. These are destination cities where individuals go for activities and
entertainment, and there is a significant share of Montgomery residents who work in DC and thus
find it convenient to make purchases there. Unlike the per capita approach that is often used to
support increased sales, sophisticated retail operations construct gravity models that determine
consumer purchasing behavior based on factors like travel patterns, size and amenities of the retail
location and substitution inducements. In particular, the DC market has significant factors that give
it the sort of gravitational pull that the Montgomery County retail market for alcohol will likely
never be able to match and suggesting the County will get to normal per capita levels of spending
is thus fundamentally flawed.
There are also specific options where repatriation claims are overstated because of the resulting
business model. For example, the option to privatize wholesale and retail for beer and wine
overlooks the fact that there is already significant private competition for the sale of these products.
As a result, issues of convenience (a key factor that generally supports increased revenue from
private retail) are already mitigated. Unlike distilled spirits, where they may be purchased for offpremise consumption at just 25 locations, there are 150 Class A licenses that have been issued to
private retailers of beer and wine.24 It is also notable that per capita consumption (expressed as
purchases) of wine in Montgomery County (2.40 per capita gallons) is already much closer to that of
its benchmarked counties than is the case for distilled spirits.
Finally, Marylands state tax structure also contributes to non-competitiveness, and Montgomery
County privatization will not eliminate that. The State already collects both a gallonage tax and a 9%
sales and use tax, and changes to the distribution system at the County level will not change that.

24

Alcohol and Tobacco Tax Annual Report, Fiscal Year 2015, Comptroller of Maryland, page 36, accessed electronically at
http://finances.marylandtaxes.com/static_files/revenue/alcoholtobacco/annual/AnnualReportFY2015.pdf

Montgomery County
September 14, 2016
Page 39

Coupled with the fact that any changes based on economic activity would occur over time and not
become an immediate revenue source, PFM finds general estimates of dollar amounts that may be
repatriated to be lacking in sufficient detail for use in current calculations of fiscal neutrality.
Revenue Alternatives
At the outset, it has to be noted that Maryland local governments are prohibited from imposing an
alcohol tax. Local governments cannot tax alcohol by the gallon nor by a sales and use tax on
alcoholic beverages.25 These are taxes that the State of Maryland reserves for the exclusive use of
the state government.
It is contextually important to accept the fact that Montgomery County has far less ability to impact
some aspects of its business results than most liquor control jurisdictions. The analysis of liquor
control operations is almost entirely a review of State operations, which have relatively unfettered
taxing authority. Montgomery County, as a local government, is limited in its taxing authority by
Maryland State Statute.
The relationship between state and local governments (including Counties) throughout much of the
US (including Maryland) is characterized by legal standards set out in two court cases in 1868. They
set out what has become known as Dillons rule and affirmed the previously held, narrow
interpretation of a local government's authority, in which a sub-state government may engage in an
activity only if it is specifically sanctioned by the state government.
The U.S. Supreme Court upheld Dillon's Rule in 1903 and again in 1923. Since then, it has become a
cornerstone of American local government law and have been applied to local government powers
in most states. Dillon's Rule allows a state legislature to control local government structure,
methods of financing its activities, its procedures and the authority to undertake functions.
Maryland is one of 39 states that applies Dillons Rule to local governments.26
In Maryland, an Alcohol Beverages Tax is imposed by the State on each gallon at the following rates:
Distilled Spirits
$1.50
Wine
$0.40
Beer and Hard Cider $0.09

25

Alcohol and Tobacco Tax Annual Report, Fiscal Year 2015, Comptroller of Maryland, page 1, accessed electronically at
http://finances.marylandtaxes.com/static_files/revenue/alcoholtobacco/annual/AnnualReportFY2015.pdf
26

Local Government Authority, National League of Cities, accessed electronically at http://www.nlc.org/build-skills-andnetworks/resources/cities-101/city-powers/local-government-authority

Montgomery County
September 14, 2016
Page 40

Besides the Alcoholic Beverages Tax, the State also imposes a 9% sales and use tax on alcoholic
beverages (for both on and off-premise consumption, including those that are a mixture of alcoholic
and non-alcoholic beverages).27 This is imposed in lieu of the States general 6% sales and use tax.
As a result, the Countys revenue alternatives without obtaining state cooperation are limited. It
is possible for the County to impose license or fees related to conducting business within the
County, but those must reflect the cost of doing business for the county as it relates to regulation
and other activities associated with the industry. If charges do not align with the services provided,
the charges are then a tax that requires State authority to impose and collect.
Within the revenue option, one source might be wholesale license fees, but this is not likely to be a
large revenue source. For one, the state already issues wholesale licenses statewide and collects
revenue (249 wholesale licenses issued in FY2015 and total revenue of approximately $193,000). It
is unlikely that a Montgomery County license would be accepted as a new county revenue source
at least in any significant amount.
There may be the opportunity to impose a beer franchise fee. This would be one-time revenue, and
it would require a state law change. Based on one method of system valuation (multiple of gross
profit), it is possible that an amount in the range of $25-$50 million might be obtained (one-time,
not on an ongoing basis) from this fee.
It should be noted that the Countys range of acceptable ongoing alternate revenues at the current
time is limited. For example, the County has already increased its property tax levy, which makes it
unlikely that it could do so again in the near future. Second, the County is at its statutory limit
related to the county income tax. Finally, the County Council has a history and has made it a
priority to roll back the energy tax.
Another significant concern about any change in tax law is the fact that it requires the state to be a
willing partner. While getting the tax approved in the first place is a concern, there is a legitimate
ongoing concern as to whether the State will follow through over time on any form of shared
revenue.
The State has been known to rescind shared revenue when its own budget situation gets difficult.
This is a serious threat to the Countys finances, as it is often the case that the State budget
encounters difficulties during the same types of difficult economic times that also endanger the
County budget. For example, the following were county revenue sources that were reduced or
eliminated during the 1990s:
1. Liquor tax revenue sharing: eliminated; loss of $4.4 million to counties
27

The 9% rate applies to sales of alcoholic beverages as defined in Tax-General Article 5-101(b). This includes sales of beer, distilled spirits,
and wine, as well as any beverage or cocktail that may contain a mixture of both alcoholic and non-alcoholic components, including an alcoholic
mixed drink, a frozen alcoholic cocktail, an alcoholic coffee drink, and a gelatin shot containing an alcoholic beverage.

Montgomery County
September 14, 2016
Page 41

2.
3.
4.
5.
6.
7.

Beer tax revenue sharing: eliminated; loss of $4.2 million to counties

Tobacco tax revenue sharing: eliminated; loss of $12.7 million to counties
Property tax grant: eliminated; loss of $82.5 million to counties
Teacher social security: eliminated; loss of $145 million
Financial institution franchise tax sharing: eliminated; loss of $17 million to counties
Transportation taxes revenue sharing (not highway user): eliminated; loss of $19.6 million to
counties
8. Abandoned property revenues: eliminated, loss of $5 million to counties
9. Corporate filing fee revenues: eliminated; loss of $1.6 million to counties
10. Security interest filing fee revenues: eliminated; loss of $1 million to counties
In recent years, the State has phased out or shifted other costs to the counties:
1. Utility property tax grant phased out
2. Teacher pensions all normal costs shifted to counties
3. Highway user practically eliminated for counties (Montgomery County used to get about
$40 million; currently, the County receives between $4-5 million a year)28
Alternate taxes may also raise equity issues. The current DLC revenue from product mark-up is
ultimately paid by those who provide and/or consume alcoholic beverages. Should broader revenue
sources (such as property, income or non-alcohol excise taxes) be used to replace revenue, it will
transfer the tax burden to other County taxpayers who may not substantially benefit from the shift.
Finally, many of the suggested alternatives are relatively small revenue sources. While they may be a
part of a package of revenue raisers, they are not likely to off-set the entirety of lost revenue from
major system changes.

28

Source: Office of Intergovernmental Relations, Montgomery County, Maryland.

Fiscal Impact by Option

Liquor Control- 2016

Total

Current
Operations
$3,197,691
$5,332,684
$1,908,685
$24,101,855
$11,560,190
$5,734,201
$3,679
$51,838,985

Option 1a.

Option 1b.

Option 1c.

Option 1d.

Option 2a.

Option 2b.

Option 3.

Option 4.

Option 5.

Alcohol Sales
Liquor Licenses
Other Fines/Forfeitures
Other Licenses/Permits
Investment Income
Misc. Revenues
Other Charges/Fees
Total

Current
Operations
$82,841,627
$1,805,302
$194,402
$88,220
$30,700
$54,221
$19,220
$85,033,692

$69,254,366
$1,805,302
$194,402
$88,220
$25,481
$54,221
$19,220
$71,441,212

$41,767,232
$1,805,302
$194,402
$88,220
$9,210
$54,221
$19,220
$43,937,806

$59,673,611
$1,805,302
$194,402
$88,220
$20,569
$54,221
$19,220
$61,855,545

$75,258,994
$1,805,302
$194,402
$88,220
$26,095
$54,221
$19,220
$77,446,453

$82,841,627
$1,805,302
$194,402
$88,220
$30,700
$54,221
$19,220
$85,033,692

$82,841,627
$1,805,302
$194,402
$88,220
$30,700
$54,221
$19,220
$85,033,692

$82,841,627
$1,805,302
$194,402
$88,220
$30,700
$54,221
$19,220
$85,033,692

$0
$1,805,302
$194,402
$88,220
$0
$54,221
$19,220
$2,161,365

$82,841,627
$1,805,302
$194,402
$88,220
$30,700
$54,221
$19,220
$85,033,692

Net Revenues Available for the General Fund

Less Debt Service (Liquor Bonds)
Less Debt Service (master lease)
Less Private Management Fee
Net Remaining Revenues for the General Fund

$33,194,707
$9,828,000
$881,400
$0
$22,485,307

$22,623,268
$9,828,000
$881,400
$0
$11,913,868

$10,488,159
$9,828,000
$881,400
$0
($221,241)

$24,403,601
$9,828,000
$881,400
$0
$13,694,201

$27,032,107
$9,828,000
$881,400
$0
$16,322,707

$33,194,707
$9,828,000
$881,400
$0
$22,485,307

$53,334,979
$9,828,000
$881,400
$18,600,000
$24,025,579

$33,194,707
$9,828,000
$881,400
$0
$22,485,307

($1,469,406)
$9,828,000
$881,400
$0
($12,178,806)

$33,194,707
$9,828,000
$881,400
$0
$22,485,307

EXPENSES
Director's Office
Administration
Licensure
Retail Operations
Wholesale Operations
Delivery Operations
Other

REVENUES

Option 1a.

Option 1b.

Option 1c.

Option 1d.

Option 2a.

Option 2b.

Option 3.

Option 4.

Option 5.

$3,037,670
$5,065,823
$1,908,685
$24,101,855
$9,826,161
$4,874,070
$3,679
$48,817,944

$2,223,630
$3,708,275
$1,908,685
$24,101,855
$1,005,008
$498,514
$3,679
$33,449,647

$2,435,627
$4,061,815
$1,908,685
$24,101,855
$3,302,261
$1,638,021
$3,679
$37,451,944

$3,122,230
$5,206,840
$1,908,685
$24,101,855
$10,742,471
$5,328,587
$3,679
$50,414,347

$3,197,691
$5,332,684
$1,908,685
$24,101,855
$11,560,190
$5,734,201
$3,679
$51,838,985

$2,130,885
$3,553,608
$1,908,685
$24,101,855
$0
$0
$3,679
$31,698,712

$3,197,691
$5,332,684
$1,908,685
$24,101,855
$11,560,190
$5,734,201
$3,679
$51,838,985

$644,161
$1,074,246
$1,908,685
$0
$0
$0
$3,679
$3,630,771

$3,197,691
$5,332,684
$1,908,685
$24,101,855
$11,560,190
$5,734,201
$3,679
$51,838,985