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STRATEGY

Honest Tea's New Deal with Coke: "Just a Tad Sweet"
 

Founder Seth Goldman gets an infusion of capital without giving up control.
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Seth Goldman knows what the critics will say: That he's a sell-out, just another mission-minded entrepreneur who is willing to toss to the curb everything he's built upon in exchange for a big payday from one of those corporations that exhibit all the negative attributes of multinational capitalism. When Honest Tea, the organic bottled tea company Goldman co-founded in 1998, announced Feb. 5 that Coca-Cola had purchased a 40 percent stake in his company, Goldman was ready for the naysayers. He hears them. He understands their concerns. But if there's one thing he believes he's earned over the past decade, it's the benefit of the doubt.

"We've given 10 years to build this business the right way, we at least deserve the chance to fail," says Goldman, who is also the company's CEO. "I don't think it's fair to penalize us just because we have this new relationship. If all of a sudden we are buying 25 million pounds of organic ingredients instead of 2.5 million, they all should be celebrating that, not scolding us."

The deal, reportedly worth about $43 million, makes Coke the company's largest shareholder. At the same time, Honest Tea will retain its leadership team and three of five seats in its board. Goldman says "the majority" of the investment will go toward purchasing shares from existing investors, both employees and non-employees. The remainder of the investment, he says, will be deployed in "expanding our sales and marketing teams and working capital as we ramp up inventory."

More important than the infusion of capital, though, is Coke's immense distribution network into which Honest Tea can now tap. Honest Tea, a former Inc. 500 and current Inc. 5,000 honoree, brought in revenue of $23 million in 2007, capitalizing on dedicated consumers who've taken to its organic, low-calorie, low-sugar line of drinks. But the company has struggled to expand its reach beyond natural foods-grocers such as Whole Foods. Goldman hopes that will now change. "The more we have consumers and stores that want our products," he says, "the more it became clear to me how important distribution is. There's an expertise that Coke has with distribution that would take us decades to develop on our own."

The financial investment is just a drop in the bucket for Coke, but the move signals the beverage giant's recent focus on diversifying its portfolio; customers can now find healthier alternatives to some of its high-sugar carbonated drinks. Last year, Coke shelled out $4.1 billion for VitaminWater-maker Glacéau and $200 million for Fuze Beverage, maker of juices and teas.

"Honest Tea is on the forefront of the rapidly growing organic beverage business, and Seth Goldman and his management team have successfully anticipated and met consumer needs in this expanding category," says Deryck van Rensburg, president and general manager of a new Coke unit, Venturing and Emerging Brands, Coca-Cola North America, in a statement. "This transaction is a superb example of our mission in VEB to seek out and invest in the best beverage entrepreneurs and the highest growth-potential beverages."

A Coca-Cola spokesman declined further comment, citing the early stage of the investment and the company's standing as a minority investor. Coke currently ranks fourth in ready-to-drink bottled tea sales, according to John Sicher, editor and publisher of Beverage Digest. "This gives Coke access to another non-carbonated brand with relatively broad shoulders that can be expanded over time even beyond teas, like it has started to already with 'ades' and kids drinks," Sicher says. "You have to look at this deal as something that will not add major volume to Coke anytime soon but is part of its strategy to build out and strengthen its non-carbonated beverage portfolio."

On paper, at least, the deal seems to offer an ideal situation for a mission-driven entrepreneur like Goldman: He gets a substantial cash investment and access to Coke's expansive distribution network while continuing to lead Honest Tea on his terms. In recent years, Goldman and the rest of his management team had considered other alternatives to expedite growth, such as a public offering, but he was wary about being at the whim of shareholders who might be quick to pull the rug out from under him at the first sign of a weak earnings report.

Initially, he was also wary of making a deal with a big beverage compay -- at least, that's what he told Inc.com in a Q&A last November: "We've been approached by larger food and beverage companies out there, but we're more focused on what kind of brand we're building." Ultimately, however, the Honest Tea-Coke deal was modeled after the partnership forged between Groupe Danone and Stonyfield Farm, an organic yogurt, ice cream and milk company led by Honest Tea board member Gary Hirshberg. Between 2001 and 2003, Danone purchased an 80 percent share in Stonyfield, but Hirshberg has continued to manage the company independently and to control the board. Today, Stonyfield boasts $325 million in annual sales. "This approach does offer a breakthrough to the age-old problem of acquirers killing the entrepreneurial and mission spirit of companies," Hirshberg says. "A lot of people dismissed [the Stonyfield-Danone] deal as a fluke. They thought either I was a really good negotiator or Danone was crazy. Now we have two [such deals] and time will tell if it works, but I'm extremely confident because my situation has been better than I hoped and I encoded the same protections into my deal."

There is one difference between the Stonyfield and Honest Tea deals, however. After three years, Coke will have the option to complete the buyout and purchase Honest Tea completely. Hirshberg refers to that term as his "one hesitation" about the deal, because he foresees both Goldman and Coke executives wanting to work together after three years. If that's the case, the agreement could be adjusted to allow Goldman to stay on board, Hirshberg says, "but I'd rather that ball be in Seth's court."

What direction Coke chooses to pursue three years from now is anyone's guess. If sales don't match expectations, would the beverage giant risk stripping the Honest brand of its low-sugar roots, making its teas a lot more than just a "tad sweet" as its labels boast?

Sicher, for one, can't imagine that outcome. "That kind of thing is just not going to happen," he says. "I think the current management of Coke is very smart about not messing with success. If I was addressing other investors or Honest consumers, I would say without qualification that the brand is in good hands now and in the future."

Goldman says he still wants and expects those consumers to continue to keep the company, well, "honest." But he intends to prove skeptics wrong. In the end, he foresees a win-win result: Coke captures a share of the growing organic beverage market and sees what a mission-driven business looks like from up close (it might even learn something in the process). Honest Tea expands nationally, becoming a household name. And more and more Americans have the option of a healthier beverage choice.

"The worst outcome would have been that we never really got to scale and stayed as a $4 million or $5 million organic tea company and we never really made an impact," Goldman says. "The ambitions are not about the biggest payday, but about how we can have the biggest impact."

Last updated: Feb 11, 2008




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