Diaper DanThanks to the current baby boom, Daniel Gold's new diaper service is ahead of projections. The next step: to become one of the first in his industry to franchise

As career switches go, few have been as odd as Daniel Gold's. Two years ago, as a Manhattan lawyer, he was operating in the high-octane arena of corporate takeovers. His days were filled with proxy contests, greenmail strategies, and junk-bond machinations. But like a refugee from The Bonfire of the Vanities, he abandoned his Fifth Avenue law office for an earthier field of play. Now Gold is better known as Diaper Dan.

It happened that Gold was looking to get out of law anyway and start a business of his own. And if he needed a push, the collapse of the junk-bond market provided one. In seven and a half years of legal work he had reviewed thousands of prospectuses, and he had a few ideas about what businesses he might want to try. He had a couple of false starts: in April 1989 he started his first business, Vision Capital Associates Inc., a venture capital consulting firm that still exists but has no active clients. That summer he opened a West Hampton, N.Y., restaurant called Crabby Dan's, but after one week of operation he closed it because he was unable to secure a permit. Restless and anxious for a big hit, Gold continued to cast about for business opportunities. The idea that most fascinated him was hatched as he roamed malls and department stores. "There were baby carriages everywhere," he says. "I figured there was a birth boom under way, and I thought there might be something in the baby market."

In his orderly, lawyerly way, Gold went to a library and did some research. Indeed, the country was in the midst of a boom. Births had risen steadily from 3.7 million in 1986 to 3.8 million in 1987 and then to 3.9 million in 1988. By 1989, when Gold began his research, they were topping 4 million and fast approaching the magnitude of the postwar explosion's peak years.

What particularly intrigued Gold, however, was that most of the media coverage also mentioned diapers. Some 17.1 billion paper and plastic diapers are sold each year in the United States, Gold learned, and they end up in the trash. More than 1 billion tons of wood pulp and 70 tons of plastic are used annually to make a product that lasts a few hours. With the average disposable-diapered tyke going through some 8,000 diapers before being toilet trained, each contributes nearly 2 tons of refuse to the country's overburdened landfills. The disposables make up only about 2% of municipal solid waste, but they have come to symbolize a throwaway society run amok. Cotton diapers, on the other hand, are the original curbside recyclables. And given the solid-waste space shortage, the debate has reached such a pitch that a number of state legislatures are on the verge of taxing disposables or banning them outright. If there was a market begging to be served, Gold's research showed, this was it.

* * *

Since their introduction in the mid-1960s, disposable diapers had captured 85% to 90% of the market. They had become a $3.5-billion industry for Procter & Gamble (Pampers and Luvs), Kimberly-Clark (Huggies), and Weyerhaeuser (private labels), and they had driven countless diaper-delivery services out of business. Only about 200 remained, mostly mom-and-pop outfits with a handful of trucks.

But as environmentally concerned new parents began turning to cloth diapers, the surviving services were swamped with demand. The landfill brouhaha had a big hand in the revival, and so did new technology. Cloth diapering was easier than ever -- Velcro tabs on the covers had replaced safety pins -- and new deodorants minimized diaper-pail odor. Moreover, Gold notes, there was a return to basics among upscale mothers older than 30 having their first child, a sense that it was stylish and more healthful for the baby to wear natural fibers. Diaper services had always been cheaper than disposables, about $10 to $14 a week versus $15 to $20. But now it was a matter of choice, not economics.

In any case, the industry suddenly was thriving. Diaper services reported growth rates surging from 12% in 1987 to 40% in 1989. Some were up by 200%. Customers were being wait-listed from coast to coast, and maternity wards were firming up the trend by switching to cloth. In Seattle alone, 20 of 23 hospitals used cloth diapers. And if hospitals use cloth, many parents figure, it must be the right thing to do.

Now that Gold had a potential business -- a diaper service -- he needed a good location. New York City, he knew, was not it. Rent, labor, and other costs of doing business were just too high there. "Getting anything started in New York is just a nightmare," Gold observes.

Washington, D.C., 250 miles to the south, looked more promising. For one thing, Gold knew the territory. He had spent four years at the Securities and Exchange Commission and a year with a Washington law firm before going to New York. For another, the demographics looked promising. Washington had hordes of government employees, and by Gold's reasoning they would be a socially aware group, cognizant of the environmental debate. Washington also boasted a huge number of affluent families and educated working mothers, ideal for the premium service he planned to run. And the ultimate end-users -- babies -- were in good supply. The metropolitan area recorded 63,000 births in 1989. In fact, childbirth-education classes in the Washington area were oversubscribed.

What's more, Washington was "still a kind of folksy southern town," Gold says, one without the predatory business ethics of New York. "I saw an opportunity there to work with other businesspeople like myself to get things started, to help me bootstrap." So in December 1989 he packed up and moved down. By that April he had incorporated as Diaper Dan's Delivery Inc. And in May he signed on his partner, Dana Goldman, a 29-year-old Washington lawyer. Like Gold, she wanted to get out of law and into the wider world, and she saw Diaper Dan's as blending business with social responsibility. If nothing else, the company would have plenty of legal advice.

* * *

Right from the start, Gold knew he wouldn't be content with just running a few diaper vans around the capital area. His background suggested something more ambitious. He had completed college in just two years. At California Western School of Law, in San Diego, he had served as editor of the California Western International Law Journal and won awards in national moot-court competition. He had gone on from there to pick up an M.B.A. and was already at work on a master's degree in taxation. "A headhunter told me to quit going to school," he says with a laugh. "He said my parents were already proud of me."

In the course of his research on the industry, Gold had come across a diaper service in California that also carried toys, baby shampoos, infant formulas -- about 300 products in all. Gold liked the concept and decided to try it. But he figured he'd be better off with a dozen good products he could turn over 20 times instead of 300 he could turn over once.

Gold figured the diaper service itself, with projected gross margins of 70%, would cover his costs. He needed only 200 customers, he calculated, to break even. (Neither he nor Goldman would draw salaries at the start.) The add-on products -- natural baby foods, lotions, lullaby tapes, diaper covers, pacifiers -- would sport markups from wholesale averaging 42%. That would be pure gravy, and Gold reckoned they could contribute at least a third of the company's revenues and possibly a lot more.

Moreover, by diversifying his product mix, he hoped to cushion the impact on the company if, as predicted, the baby boom leveled off between 1993 and 1995. "We can add other products that grow with the child," Gold says. "There could be developmental toys, products for the second child or even for the mother." So he'd have a fallback position.

Not only did he think he could sell the add-ons, he was already contemplating branching out into such extras as baby photographs and perhaps even his own catalog. He figured people would be more likely to buy products when they saw the same person every week. "I thought of it like the old-time milkman who began to sell his customers butter and eggs," he says. "So I wanted my customers to develop a relationship with my drivers, to be on a first-name basis and more like friends."

Then Gold took the idea one step further. Even before he had his first account, he planned to franchise Diaper Dan's. The National Association of Diaper Services, in Philadelphia, was being deluged with information requests from hundreds of would-be entrepreneurs; they had spotted the same opportunity that Gold had. Given that level of interest, Gold believed he had a franchise market ripe for tapping. The obstacles would be the cost and the management hassles. A franchisee would need a large facility equipped with commercial laundry machines and a staff to run them. But it was here that Gold perceived a huge advantage. Neither he -- nor his potential franchisees -- would do the washing of clothes.

For Gold this was partly a matter of financing. He had spoken to several venture capitalists about investing in the company, but no one took him seriously. "You're a lawyer, Dan," one said, shrugging. "What do you know about the diaper business?" Convinced that start-ups spend too much time and money trying to raise financing, Gold simply obtained a $50,000 bank loan on his personal guarantee and added $25,000 of his own cash.

With a total capitalization of $75,000, he was hardly able to invest the kind of money required for high-volume laundry equipment. That could run well into six figures, with a payback period as long as seven years. And after all, he had 40,000 diapers to buy, at a cost of about $30,000. He had a van to purchase, and Yellow Pages ads to buy. Those were the basics. Besides, he had little interest in the laundry end of the business. "If I had to be worried about running machinery and each month buying a new washer and dryer and also manage an entire staff of cleaning people, you're talking nightmare," he says.

Instead, he decided to do something unusual in the industry -- farm out the dirty diapers to an outside party. After exploring his options, he settled on Virginia Linen Service, part of a company that has 13 operations in six eastern states and the District of Columbia. Virginia Linen Service, rigged with a state-of-the-art, continuous-batch "tunnel" washing-and-drying system, was a 10-minute drive from Diaper Dan's own location, in Washington's Maryland suburbs. In addition, Virginia Linen had some experience laundering diapers, having done it for years before the advent of disposables.

Last March Gold locked up a three-year contract with the company to handle his and only his diapers within a 50-mile radius of the Washington Monument. There's only one catch. "It's an exclusive provided he builds the volume that makes it worth our while," says Virginia Linen's owner and chief executive, Donald Struminger. "If he doesn't build that volume, then he will not have an exclusive contract. He has not yet reached the point where we'd be satisfied to continue, but he is moving along on the projection curve that we set when we made the agreement."

The exclusive deal is critical to Gold, mainly because it thwarts copycat start-ups from using that same launderer. And his research showed that launderers willing to take on this kind of work were few and far between. Most other large linen companies launder only their own garments and rent them to hotels and hospitals. An option to renew the contract also is key. Although they have not negotiated it yet, Gold hopes to secure similar terms in other states where Struminger has operations -- Ohio, West Virginia, North Carolina, Pennsylvania -- if and when he sells franchises there.

Thus, under Gold's plan, potential franchisees would be freed of the cost of laundering and the need for a large facility. They could operate a business with a van and a telephone -- a husband-and-wife team could run it out of their house.

Finally, Gold planned to introduce a name-brand Diaper Dan's diaper for retail sale. Most cloth diapers sold in the United States are manufactured domestically by Dundee Mills and Gerber Childrenswear. India, Pakistan, Peru, and Venezuela produce cotton diapers. But Gold was convinced that the best, the most absorbent, and the cheapest diapers came from China. Chinese cotton products exported to the United States are restricted by U.S. textile quotas, but Gold already had contacted a U.S. agent about securing for him a reliable supply of Chinese diapers.

"If you see a company having a private-label diaper, and then you see it also as a diaper service, it reinforces its visibility," he explains. "But more important, if we're going to supply diapers to our franchisees, ultimately we need to come up with our own diaper, a product of consistent quality."

* * *

With his plan complete, Gold got down to work. At the outset, he analyzed the other diaper services in the Washington area and listed customers' complaints. Foremost was a health matter. People seemed concerned about getting back strangers' diapers. Gold resolved that by hanging a net in each client's diaper pail. His delivery person can simply yank out the net, fasten it with a giant safety pin (engraved with the customer's account number), and toss it in the van. The diapers can be washed right in the net and returned clean and folded to the same family.

Another complaint was that women were mistrustful of male delivery people. Gold solved that one by planning to employ as many female drivers as possible.

To pursue the upscale market he was targeting, Gold set his prices slightly above the area norm -- $12 a week on a three-month contract but dropping to $10.50 for a year's service. (One of his largest competitors, Nu-DyPer Baby Service, charges $11.20 a week; another, Dy-Dee Service, charges $10.65.) "I knew our pricing would turn away a small segment of the market," he says, "but we don't want everybody, just the solid middle-to upper-middle-income group."

Gold and partner Goldman set up operations in a 3,000-square-foot warehouse space in an industrial park just off the Capital Beltway -- for a mere $250-a-month rent -- and by last June they were ready to roll. They had thousands of Chinese diapers, a driver, and a 12-foot van that had been carefully customized to segregate dirty diapers from clean ones and from the ancillary products. The truck is decorated with a Dapper Danstyle logo -- a baby sporting a top hat and a cane, like an infant Fred Astaire.

Gold set conservative projections. He forecast 400 customers by the end of his first year, with an average of 600 in the second, and 1,000 the third year out. If those numbers held true, and if the add-on products sold as well as he expected, revenues would rise from $422,500 the first year to $1.7 million in the third, with before-tax income climbing from $35,124 to $362,037.

That seemed feasible. As the business plan described it, Washington's baby-product market is approximately $150 million a year. Diaper Dan's was initally seeking to capture just 0.05% of that, and Gold designed a three-pronged marketing approach to meet his target.

First he took aim at what the industry calls "influencers." Where better to find customers than in childbirth classes? And who better to promote cloth diapers than the Lamaze teachers and nurses who run the programs? Gold visited 12 area hospitals to meet with the teachers and nurses, and found them receptive to his plan. As part of their instruction, they included lessons on diapering with both cloth and disposables. Procter & Gamble was giving them information packets with disposables and free coupons in hopes of building brand loyalty. The teachers who used the cloth diapers had to buy them themselves, and so they got the cheapest possible.

What Gold devised for them instead was what he called edpacs (ed stood for education) -- comprehensive cloth-diapering kits that he'd provide free of charge for classroom use. They included a diapering instruction manual, a brochure on Gold's service, a dozen luxurious Chinese diapers stamped with Diaper Dan's name (which cost him $8 a dozen), and 12 Velcro-tabbed covers. The cover manufacturers, hoping to boost their own sales, were happy to provide them at no cost.

Next he approached the regional La Leche League, an organization that promotes breast-feeding and would be receptive, Gold figured, to using natural cloth diapers. Asking only that he be the corporate sponsor, he volunteered to underwrite the cost of its one-page telephone directories. The group was happy to accept. Gold had 2,000 of them printed up, at a cost of $30. These are the kind of things league members would stick on their refrigerators, and of course Diaper Dan's name and number are at the bottom.

Finally, Gold visited every area store that handles children's goods -- furniture, clothing, strollers, and the like. "I just went up to them and said, 'Help me out -- let me display my business cards and brochures here.' And most were very generous about it. I also asked them to speak to their sales force to kind of promote us when people came in for cribs or cradles. So now we have a few key stores recommending our service." What's in it for the retailers? They provide Gold with promotional coupons for their merchandise, which he distributes to his customers.

All that legwork quickly paid off. By December -- only four months after its formal launch -- Diaper Dan's was crashing past all expectations. Its customer base stood at 350 and was growing geometrically. Referrals came from referrals. Gold distributed and advertised in a local magazine for parents, but many leads were generated by word of mouth. The company's very name helped. Diaper Dan's just sounded right. "We have people request our service because they say their mothers used Diaper Dan's," marvels Goldman. "They thought we'd been around for years."

By Christmas customers were signing up at a rate of 35 a week. He now thinks he'll have at least 1,500 customers after the first year, four times his projection. He's already preparing to expand his sales territory to include Annapolis, Md., and second-tier counties beyond the Washington Beltway.

The add-on items began moving rather well, too, thanks in part to Gold's use of door hangers, the kind of checklists found in hotel rooms. A customer not at home to take delivery simply jots down her or his order and leaves the hanger on the front door. Roughly half of the accounts make regular purchases of the add-ons, and a quarter of them have standing orders for certain items. Weekly tickets are averaging $20, meaning that the typical customer is buying from $7.50 to $9.50 worth of ancillary merchandise.

Gold has found little price resistance to any of his add-ons, perhaps because he has succeeded in reaching an affluent market. For instance, the baby food he sells, Earth's Best, retails for 71¢ a jar compared with around 40¢ for Gerber or Beech-Nut. But his typical customer -- a first-time mother, age 32, with good earning power -- is unfazed. "The households we serve generally have two well-educated working parents with combined incomes of $50,000 to $100,000," he says.

In large measure, this early success stems from the company's personal touch. With each new customer, for instance, the delivery woman provides a complete start-up kit -- the diaper pail, deodorant filter, liners, general information, coupons, a magazine, the net, and the first 75 diapers. Then she takes time to demonstrate how to diaper a baby and answer any questions.

Leaving little to chance, Gold and Goldman work hard to keep their clientele happy. "When we get a complaint, we log it in and look at it," he says. "Then we write an apology letter and send a little gift. It costs more, but it maintains strong customer loyalty. And people are amazed -- this is a diaper service doing this?

"It's the whole gestalt of being a baby store on wheels," Gold adds. "There are women 35 years old having their first child. What do they know about babies? There's a lot of knowledge to absorb, and we feel we can help."

* * *

From a regulatory standpoint, the outlook keeps brightening for the cloth-diaper industry. By 1990, more than 20 state legislatures were considering bills to reduce the use of disposables, and 4 states had enacted legislation. The tactics include taxes and environmental warning labels. In several states, the use of disposable diapers may even be banned before long.

Those developments can only help Gold. Like any start-up, however, Diaper Dan's faces a few hurdles.

First, there is the chance that manufacturers could develop biodegradable disposables or find some other remedy to the landfill issue. That might prompt even ecology-minded parents to turn to throwaways. Procter & Gamble, for one, is planning to spend $20 million testing the composting of disposables. The problem with this approach is the cost of collection. As for biodegradable diapers, they'd probably face hostility from environmental groups, since in the airless tomb of a landfill nothing breaks down quickly.

Then there's Virginia Linen Service. From a capital-investment standpoint, the deal makes sense. But any time a company farms out a key part of its business to a third party, there can be trouble. Should Gold lose his exclusive contract with the concern, he could find himself facing start-ups in his own backyard using the same laundering strategy. But Gold feels confident that Virginia Linen will perform well. It's been in business for 57 years and enjoys a reputation for quality service.

There's also the question of child-care centers. Gold loses about five customers a week, usually when children start going to day care. It's not cost effective for parents to use a diaper service at home and then have to buy disposables for day-care use. And for convenience as well as sanitation, staffers at the centers much prefer disposables. Most centers even prohibit cloth.

But Gold is optimistic. One or two U.S. manufacturers have introduced a cotton diaper with a built-in liner; in design it's like a disposable that can be laundered, and Gold says it will revolutionize the industry. Moreover, regulatory pressure is building for cloth. The California legislature passed a law making it illegal for child-care centers to refuse to use cotton diapers. The governor vetoed it, but a similar bill was signed into law in Maine.

Finally, there's the impact of a recession. Washington should be fine. With 350,000 federal employees providing ballast, its economy is more resilient than most.

Franchising, however -- which Gold expects to start this summer -- may be tough in a downturn. What's more, he thought he'd have the franchise field all to himself. But two experienced diaper-service operators, Brian Smithson in Seattle and Doug Flatz in Minneapolis, have joined forces to launch a franchise venture of their own. While Gold is still working on the required documentation, his nascent competitors are set to roll. They expect to have franchises operating by year's end.

Still, with a baby boom in full bloom and a landfill crisis that won't vanish anytime soon, there may well be enough business to satisfy everyone.


EXECUTIVE SUMMARY

THE COMPANY:

Diaper Dan's Delivery Inc.

Beltsville, Md.

Concept:

Capitalize on the current baby boom and the resurgence of cloth diapers through home delivery of premium diapers and additional baby products; eventually move into franchising

Projections:

Revenues of $422,500 the first year, rising to $1.7 million in the third, with pretax profit rising from $35,124 to $362,037, respectively

Hurdles:

Retaining customers once their children attend day-care centers; maintaining exclusive contract with laundry facility; financing the franchising effort

THE FOUNDER

Daniel M. Gold

Age: 34

Family: Single

Source of idea: Observed an increasing number of young children wherever he went

Personal funds invested: $25,000 and a personal loan of $50,000

Equity held: 60% (partner Dana Goldman holds 40%)

Salary: $0

Workweek: 80 hours -- "I work six days and on the seventh I market."

Education: B.A., Long Island University; J.D., California Western School of Law; M.B.A., St. John's University; now seeking a master's degree in tax law at Georgetown University's law school

Other companies started: Crabby Dan's, a crab restaurant in the Hamptons; Vision Capital Associates, a venture capital consulting business

Last job held: Lawyer


FINANCIALS

Diaper Dan's Delivery Inc. Projected Operating Statement

Year 1 Year 2 Year 3

Average Number of Customers 250 600 1,000

Revenues

Diapers $195,000 $468,000 $780,000

Add-ons 227,500 546,000 910,000

Total Revenues 422,500 1,014,000 1,690,000

Cost of Goods

Diapers 59,150 152,880 254,800

Add-ons 159,250 382,200 637,000

Total Cost of Goods $218,400 $535,080 $891,800

Total Gross Profit 204,100 478,920 798,200

Total OperatingExpenses 149,078 284,318 381,112

Net Income (Loss)
from Operations
55,022 194,602 417,088

Net EarningsBefore Taxes 35,124 175,017 362,037


WHAT THE EXPERTS SAY

OBSERVER

ANN BEAUDRY

Washington, D.C., environmental consultant to the National Association of Diaper Services

It doesn't surprise me that a lawyer, as Dan Gold is, was quick to pick up on the potential growth in the diaper-service industry. That growth, I think, will be greatly fueled by action on the public-policy front in the next couple of years.

States and cities are under mandates from the U.S. Environmental Protection Agency to achieve 25% reductions in solid waste, and they have to submit plans stating how they expect to accomplish that goal. And here you have this single consumer product -- disposable diapers -- accounting for 2% of all solid waste going into landfills. It doesn't make environmental sense to cut down mature trees to make a product that lasts for a few hours, and then stick it in a landfill.

People understand they are going to have to make some different consumer choices if we are going to protect the environment. Polls show that 70% to 80% of people are willing to do that. Legislators know they are not trying to fly in the face of enormous consumer opposition on this issue. So given the solid-waste crisis, I think you'll see increased legislation to discourage the use of disposable or single-use diapers, and environmental groups are going to step up their public relations education efforts about this.

FINANCIAL ANALYST

LAWRENCE BAKER

A private investor in Boston

Right now Gold has got a good niche in a good location. Washington, D.C., is sophisticated enough that a "green" product is going to have a good reception, but how that would play in other areas is open to question.

I don't think he's necessarily wrong in contemplating franchising, but one of the first questions one asks in dealing with an entrepreneur is, What's his ambition? Everybody who gets into franchising wants to be McDonald's. But there have been some real franchising disasters. He must control costs and not overleverage himself with the expectation that he is going to have a brilliant franchise success story. Human nature being what it is, it's always difficult to retreat at the right time. He needs to keep his eye on the ball -- in this case, service.

It's hard to find any real fault in what he's done thus far, especially since he's playing with his own money. He's got a nice idea that's being carried out with imagination and great vigor. For a lawyer who didn't know much about the diaper business, he's done just fine.

COMPETITOR

BRIAN SMITHSON

President of Baby Diaper Service Inc., a $7-million company with 14,000 customers in Seattle; he and partner Doug Flatz recently launched Babies First Diaper Service Inc., a diaper-service franchise operation with franchises available in 35 states

My impression is that Mr. Gold is starting out the right way with his marketing approach. Anybody can go into a big metropolitan area and come up with 1,000 customers. But if you want to do better than that, you need to generate an education program to these new parents to let them know why they should look at you as an alternative to disposables.

I think Gold can do something to reach the environmental groups. Most of us with established services have extensive mailing lists, and when we see something favorable about cloth diapers, we send it out to childbirth educators, to doctors' offices, to state legislators who sit on environmental committees, and to the solid-waste people. So he can develop this allied group of people who can really help him down the road.

I love the fact that, if he makes mistakes, he logs them in, sees if he can cut down on them, and sends something nice to the customer. That goes a long way. There is no doubt that the network of new parents is so tight that if you give people exemplary service, they will talk about it and become ambassadors for you.

A thought about the add-on products: we carry about seven items -- diaper covers, room deodorants, pins. If it's related to diapers and diapering, we sell a lot of it. If it's not -- like baby food -- I haven't been able to sell very much. I can't seem to do as good a job as Mr. Gold hopes to do.

COMPETITOR

DOUG FLATZ

President of Crib Diaper Service Inc., a $3.4-million company in Minneapolis with 6,000 customers

Mr. Gold has some really good ideas. He has a commitment to high-quality service, and that's important because these days if you don't have quality service, you don't have much. He's also committed to filling his clients' needs beyond the diapers.

But he has to supply the add-on products based on those needs instead of on the profit needs of the diaper service. It's hard to compete with discount stores, so those items need to be something he's providing to his customers to make them want to stay with him. One of the big problems built into this business is customer longevity. The national average for sticking with a diaper service is 45 weeks, while the potential is two and a half years.

A big concern is that Gold's diapers are laundered by someone else. He doesn't have direct control over the quality of processing, and consistent quality is mandatory. In the short term, he's saving the capital cost of buying laundry machinery, but in the long term, he's just passing a profit center on to somebody else. If the linen service can do it for a profit, why couldn't he?

Also, t