Honest Tea’s Growth Path?

Scott R. Baker
Kellogg School of Management
Please do not distribute without consent of instructor
Cash conversion cycle
• The length of time, in days, that it takes for a
company to convert cash outflows into cash inflows
– Amount of time needed to sell inventory, collect
receivables, and to pay bills

• The Cash Conversion Cycle (CCC) is AR+INV-AP in

terms of Days/sales

• Honest Tea:
– HISTORICAL = 55+91-52=94
– INDUSTRY = 40+28-60=8
– This means you will need 11x NWC to support the same sales!

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Retailer CCCs

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Negative CCC
• Accumulate revenue from sales before you
are forced to pay for the goods, yourself

• => Interest free loan from your suppliers!

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Finance Can Drive Business Model Choice
• Popularity of manufacturing v. software in
startups?

• Not just about production and physical

capital costs!

• Software-as-a-service model

• Kickstarter

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How Could Honest Tea Improve Operations?
• Inventory?
– Data-driven analysis of varieties that sell faster
– Speed manufacturing

• Accounts Payable?
– ‘Strategic waiting’
– More leeway as credit improves

• Accounts Receivable?
– Renegotiate with customers
– Pursue debts sooner/faster
– Discounts and penalties; hire a consultant?
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Translates Directly into Ownership
• Huge cost in terms of ownership of not
fixing CCC

• Need more cash for growth? Need to give

up much more equity!

• Is a poorly run company as valuable as a

well-run company?
– Depends on VC operational expertise?

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Other Considerations
• Worth getting money from VC just to ‘lock
up’ in your CCC?

• How would this affect negotiations?

• How would this affect multiples valuation?

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 Honest Tea
What Happened?

Scott R. Baker
Kellogg School of Management
What did Barry and Seth decide to do?
• They did not raise venture capital money

• Felt VCs would detract from brand and their

desired cap table

• Continued with the same path of fundraising:

– Stayed true to their original goal
– Went to the investor circle for more funds

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Performance
• Continued to significantly expand the company

• Growth didn’t quite hit targets, but steady

– 2000 Sales were $1.9 million
– 2001 Sales were $3.2 million (50% organic products)
– 2002 Year-end sales were $4.6 million
– 2003 Year-end sales were $5.5 million
– 2004 Year-end sales were $5.9 million (USDA organic certification)
– 2005 Sales hit $9.6 million
– 2006 Sales were $13.5 million
– 2007 Sales hit $23 million

• Continued to leverage positive media

– (by winning prizes, certifications, and recognitions)

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 Performance

Honest Tea Sales and Employees up to 2007

60
Sales (mln US$) and Employyes

40

20

0
1998 1999 2000 2001 2002 2003 2004 2005 2006 2007

Sales (in mln US$) Employees

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Based on this number, re-evaluate the warrants

Founders ownership before and after third round as a function of value

80.0%

70.0%
68.1%
65.1%
62.7% 63.6%
60.0% 61.1%

54.9% 55.9% 56.1%

53%
50.0%
44.9%
40.0%
36.5%

30.0% 29.3%

20.0%

10.0%

0.0%
$1,365,000 $3,560,000 $6,555,000 $13,100,000 $33,625,000 $58,650,000

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Based on this number, re-evaluate the warrants

Third Round investors share

25.0%

20.0%

15.0%

10.0%

5.0%

0.0%

Very smart ownership structure!

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Competition increasing

U.S. Mainstream Retail Sales of

RTD-Packaged, Shelf-Stable Tea

Brand Sales (mln$) Share (%)

Lipton 393.5 34.8
Arizona 284.3 25.1
Snapple 216.8 19.2
Nestea 92.3 8.2
Enviga 21.7 1.9
SoBe 19.8 1.8
Fuze 7.6 0.7
Honest Tea 6.2 0.5
Tradewinds 5.0 0.4
Tazo 4.4 0.4
All Other, Including Private Label 78.9 7.0
Total 1,130.5 100%

Note: Figures are based on IRI sales tracking through U.S. supermarkets,
drugstores, and mass merchandisers other than Wal-Mart.

Source: Information Resources, Inc., compiled by Packaged Facts.

Ready-to-Drink Tea: Top 10 Brands by Sales and Share (2005)

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What Next?
Then in 2008… received an offer from Coke
• In 2008, Goldman and Nalebuff sold 40% of the
company to Coca-Cola for $43 million
• In 2011, they sold the remainder of the company
to Coca-Cola for an undisclosed amount

• 2008 Sales hit $38 million

• 2009 Sales hit $47 million
• 2010 Sales hit $71 million
• 2011 Sales hit $75 million
• 2012 Sales hit $89 million
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Consequences?

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Common Worry for ‘Social Product’ Acquisitions

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 Honest Tea
Why This Case?

Scott R. Baker
Kellogg School of Management
Why This Case?
• Analyze how past financing choices affect future
ones

• Was hard to convince VCs to invest given previous

funding strategy!
– But VC may not have added much value

• VC funding: more expensive than alternatives?

– Need to ask what you are getting in exchange!

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