LONDON (Reuters) - Small, independent distillers are popping up and taking market share but liquor giants like Diageo (DGE.L) and Pernod Ricard (PERP.PA) say barriers to entry and the range of spirits already available will limit their impact.
Mindful of the way big brewers were caught out by the craft beer trend, the world's largest spirits makers are launching lines such as Orphan Barrel and Our/Vodka that tout small batch credentials and refining their marketing of big brands.
They are acting while "craft" spirits like Sipsmith gin and Hudson whiskey are still relatively niche products.
"The U.S. spirits market faces a growing threat of substitution," analysts at Credit Suisse said. "A market that had been characterized by large-scale national brands is becoming increasingly focused on local, authentic, small-batch production."
After compound annual growth of about 50 percent since 2010, craft distillers -- or those producing under 100,000 cases per year -- now account for about 2 percent of the U.S. market, the largest and most profitable in the world.
It remains to be seen whether it will ever get as big as craft beer, which makes up 11 percent of the volume and 20 percent of the value of the U.S. market.
"I don't think the response to craft per se is any big brand or little brand," said Michael Ward, Diageo's global head of innovation. "I don't think it has anything to do with the size of a brand."
Diageo, which has posted flat sales for two years, wants to reignite growth with a host of new labels including Blade and Bow and Orphan Barrel, whose marketing relies heavily on their links to the mothballed Stitzel-Weller facility in Kentucky, which was opened in 1935.
"Consumers are demanding a better understanding of what's behind the product and our job is to figure out how to tell that story better than we've done," Ward added.
Pernod, which took a 404 million euro ($449 million) write-down on its Absolut vodka after its U.S. sales fell, says it needs to better differentiate its marketing and may take a "craft-targeted approach" on some brands.
Craft "can be an opportunity or a threat -- a threat if we are not adapting our marketing platforms," said Gilles Bogaert, Pernod's chief financial officer. "I think today net net, we see it as an opportunity."
Pernod is playing up the artisanal nature of single malt Scotch with launches like the Glenlivet 50-year-old Winchester Collection. It also launched Our/Vodka, which it says is partly distilled, blended and hand bottled in microdistilleries.
The number of U.S. craft distilleries jumped from about 200 in 2011 to about 600 in 2014, lifting sales volume from about 700,000 cases in 2010 to about 3.5 million last year.
Craft distillers' sales are nearing $450 million a year, according to the Distilled Spirits Council of the United States.
If current trends continue, Credit Suisse estimates craft could reach a 12 percent share over the next decade, helped by a consolidated distribution system that is allocating more resources to craft and the potential for proposed tax reform.
The rise of craft may cause greater pain for Diageo than Pernod, Credit Suisse says, since Diageo is more reliant on the United States, has put through a lot of price increases in recent years and has seen less consistent growth in whiskey, which has more craft credentials.
Yet a number of factors could cap the rise of craft spirits.
Distilling is more complex and capital intense than brewing as whiskies, rums and many tequilas require years of aging.
"Starting up a craft distillery is a very different cash flow exercise than starting up a craft brewery," said Diageo's Ward.
For gin, which can be made in one day, craft brands make up about half the "super-premium" market in Britain, according to Bernstein Research, but only 5 percent of gin overall. Because craft players lack the scale benefits of larger rivals, their prices are often higher.
"In vodka and gin, the barriers to entry depend entirely on how you want to do something," said Zoe Zambakides, head of marketing for London micro-distillery Sipsmith, which just hired its third distiller as it boosts output which she said is as much in a year as big brands make in a day.
The fact that there are already so many high-quality drinks at different price points and taste profiles means there is no obvious gap in the market like there was for beer 15 years ago, when light, easy-drinking, mass market lagers dominated.
What is more, Bernstein Research said craft beer was arguably ignored by big brewers, with leader Anheuser-Busch InBev (ABI.BR) only really ramping up its presence in the last 18 months.
"The large spirits manufacturers already offer premium niche products that compete head on with craft and have perceived heritage and authenticity," Bernstein said.
Editing by Keith Weir