Anatomy of a Start-up
What do you do when you invent a snack food no one wants to eat? Reposition it as a packing material, of course
The Concept. Consider the foam peanut. Introduced circa 1970, it quickly became a symbol of our mail-order culture, an amazing product when you think about it: lightweight, inexpensive, and resilient, it conforms in bulk to any shape, protects superbly, resists shifting in transit, and leaves no dusty residue. Also, it's indestructible--which is the problem, of course. Like diamonds, polystyrene peanuts are forever. Every one that's ever been made--and the stash is growing yearly at a rate of at least 50 million pounds, or 300 million cubic feet of peanuts--is still with us, somewhere, blowing in the wind or taking up space in a landfill, and will stay with us, scientists say, for the next 500 years.
A young Phoenix company, Biofoam, thinks its all-natural peanut (also called Biofoam) makes more sense--for shippers, consumers, and Mother Earth. Biofoam is made from grain sorghum. Stripped of its nutritional value, pressed into pellets, and conveyed through a giant popper, the stuff comes out looking like so many tan cheese doodles. (When Biofoam cofounders Tom Martin and Jerry Sullivan began experimenting with grain sorghum, back in the mid-1980s, they had in mind snack food, not packaging material, but that's another story.)
Chief executive Ed Alfke claims that Biofoam does just as good a job as the best foam peanut, doesn't cost any more, and, by the way, doesn't stick to nylons (no electrostatic charge) or outlive sequoias. The stuff is "absolutely, frighteningly natural," says operations vice-president Tom Schmiegel, a veteran of the plastics industry. Disposal options include the trash can, the front lawn (Biofoam dissolves in water), the compost bin, the dog bowl, and the party platter. "Try it with salsa," Alfke suggests.
Before Alfke arrived, Biofoam operated quietly out of a warehouse in Tempe, Ariz. Martin and Sullivan devoted most of their meager resources to research and development. Sales were an afterthought. By 1994 the pair had reached their limit and were looking for help, in cash and in management expertise.
Enter Alfke, then 44, a blond, blue-eyed college dropout from Dawson Creek, British Columbia, who had founded Rent-a-Wreck in 1976 and sold the North American operations 10 years later for undisclosed millions. "I'm looking for a large deal," Alfke had been broadcasting to his contacts, naming three criteria: the company had to have a large scope, it had to have large margins, and it had to be environmentally positive. The green component was partly his conscience talking and partly his gut. Alfke believes that green companies stand to profit in a big way from a global regulatory climate that's increasingly hostile to polluters. "The writing is on the wall for companies that are not environmentally friendly," he says.
Alfke bought a controlling interest in Biofoam in May 1995 and set the company on a fast-growth track. He assembled a high-powered board that includes a former deputy secretary of the interior, a past chairman of the Canadian National Railroad, and two members of the elite Bohemian Club. He quickly raised $8 million of the $20 million in investments he had hoped to pull in by the fall of 1996. He designed a national sales campaign and, what's most intriguing, reinvented the way loose-fill products are manufactured and distributed.
For volume users, Biofoam will install a production unit free of charge inside the customer's factory and supply a bonded, insured Biofoam employee to operate it. The customer benefits from just-in-time delivery and competitive pricing made possible in part by reduced shipping costs (one truckload of pellets equals 50 truckloads of peanuts) and the absence of intermediaries. Biofoam benefits from the intimacy of setting up shop inside its major customers' plants, but that's a bonus, not a reason to do it. What Biofoam is really after is a rent-free network of regional manufacturing facilities. In a typical setup, Alfke believes, the host company will consume only about one-third of the production unit's capacity. The rest Biofoam hopes to sell to smaller customers in the surrounding area.
Down the road, Alfke sees exciting new applications for Biofoam: molded packing material, cafeteria trays, sandwich clamshells for the to-go market, oil-spill-cleanup stuff. He thinks he's sitting on top of a new-product volcano. "I see a lot of deals," he says, "and I've never, ever seen a deal as good as this one."
Markets and Competitors. Big shippers like QVC and Home Shopping Network consume 10 to 20 truckloads of loose fill a day at peak volume. Biofoam would love to sign up both of those retailers, and any other company that ships products that need careful handling.
The size of the market depends on who's doing the estimating. Plastics-industry executives insist it's puny, worth no more than $150 million. "Bull," says Alfke, noting that waste producers have every reason to downplay their impact on the environment. He's telling potential investors the truth lies closer to $500 million. Al Striano, vice-president of marketing and sales at Ranpak, which sells shredded-paper filler, defines the market more broadly as "in-the-box packaging" and says it totals $1.4 billion in the United States and about $4.5 billion worldwide.
Biofoam is fighting for market share on several fronts: against the likes of Ranpak; against the old-line plastic-loose-fill makers; and against newer companies such as Enpac, a DuPont/ Conagra joint venture that makes Envirofill, one of several water-soluble (if not entirely chemical-free) starch-based peanuts that began appearing in the late 1980s.
Starch-based loose fill has since gained about 20% of the peanut market, but growth is leveling off. Jim Jensen, marketing manager of Free-Flow Packaging, in Redwood City, Calif., which makes both plastic and starch peanuts, thinks starch will never claim more than a 30% market share. He cites quality concerns (more dust, less resiliency), weight problems (starch is three times heavier), and cost (peanut prices are all over the map--from less than 50¢ to more than $1 a cubic foot--but starch peanuts command a 30% premium).
Meanwhile, the polystyrene industry has begun to shuck its environmental stigma. Consumers who care now have the option of tapping into Peanut Pipeline, a nationwide network of merchants and shippers willing to accept foam peanuts for reuse.
Biofoam's initial targets have been retailers who want to send a green "We care" message to consumers (and brag about it with a Biofoam-supplied insert). Current accounts include Fuller Brush of Great Bend, Kans., and MicroAge, a computer reseller based in Tempe, Ariz.
Eventually, though, Alfke knows he must break out of the green ghetto and into the broader market. That means closing the gap between value and quality on one hand and environmental consciousness on the other. He wants to give customers a compelling, no-brainer option: to be environmentally responsible without having to pay more or sacrifice convenience. "No hassle, no added cost" is what Alfke promises.
The Key Innovation. Biofoam's proposal to install a machine on the customer's premises and charge only for the product is not original. It's how the Haloid Co. (now Xerox) once sold copies, and how Tetra Pak sells juice boxes and milk cartons. There's even a precedent in the packaging industry: Ranpak sells its customers rolls of paper and charges only a maintenance fee for the custom-built machine to shred it. None of those companies, however, sells the excess output of those machines to other customers, and that aspect might rankle the Biofoam hosts.
Biofoam's $250,000 production units can be an intrusive presence. Three machines--an extruder, a conditioning chamber, and a de-duster--are joined by ducts and conveyor belts. They occupy 1,500 square feet of plant space. The noise (like a giant air conditioner) makes conversation impossible in the immediate vicinity, and the smell (like the inside of an old barn) could easily offend. Heat from the machines is potentially an issue; so is electricity consumption.
But there are definite advantages for Biofoam's host customers: a price that's competitive with that of polystyrene; reliable, immediate delivery (a big issue for shippers who can't always anticipate demand but are loath to stockpile bulky loose fill--with Biofoam, they'll never run out); on-site service; and a five-year price guarantee, which Biofoam throws in to fluff the deal.
Glitches. Last October, Biofoam was sued by Warner-Lambert (inventors of a process for making starch-based injection-molded products), Enpac (the licensee), and Novon International (distributors of Envirofill), which all claimed patent infringement. The nut of the issue is Biofoam's alleged use of "destructured starch," which is ordinary starch (corn or grain) that's been manipulated at the molecular level. "If a product contains that kind of starch, then it's our position that it infringes on the patent," says Randall Redd, president of Enpac.
"Biofoam did not infringe," insists its attorney, Craig Lundell. "If the patent is interpreted broadly enough to cover Biofoam's process, it's invalid. The suit was simply filed in an effort to force the company out of business."
The lawsuit (or "smear campaign," as Alfke calls it) is emblematic of the rough-and-tumble arena Biofoam has entered. The polystyrene loose-fill industry is a dense, fragmented patchwork that includes oil companies, chemical producers, manufacturers, and regional distributors, all of which would suffer from Biofoam's success.
Alfke seems stunned by the tone and volume of the opposition he has encountered. Biofoam has filed a $50-million counterclaim against Enpac, alleging a systematic campaign to discredit its product and intimidate potential customers (one of whom, PaperDirect, is a codefendant with Biofoam in the original suit). Alfke claims that someone has broken into Biofoam's computer network and that intruders have ransacked its paper files three times in search of trade secrets. Security is tight at Biofoam's pellet-production plant in Rapid City, S. Dak., where Bif, a rottweiler of certified East German guard-dog lineage, now patrols the premises.
The Bottom Line. Biofoam hopes to do what no starch-based product has done: compete on price with polystyrene. To do that, it has to make on-site production work. "We couldn't match polystyrene's price if we produced and distributed our product the normal way," says Alfke. Shipping costs alone add about 10% to the wholesale price of foam peanuts, Alfke estimates. Rent and utilities add 7% or 8% more. The Biofoam model reduces or eliminates all those factors.
Sales of Biofoam loose fill topped $2.5 million in fiscal 1996, a fivefold increase in Alfke's first full year. His steeply ascending projected sales curve hits $80 million by 2000 and yields pretax profits of almost 30%. Alfke's projections are not based on sales of loose fill only. If you visit his office, he can't resist showing you a chunk of stiff packing material made from Biofoam, telling you about exciting experiments with injectable Biofoam, or hinting at Biofoam's amazing capacity to absorb oil spills. But if you bring up rumors of possible medicinal applications, he frowns, squints his blue eyes, and changes the subject. He's afraid no one will take him seriously: "It's important right now that we try to stay focused."
Popcorn? Peanuts? Biofoam?
COMPANY: Biofoam, in Phoenix, makers of an all-natural alternative to polystyrene peanuts
CONCEPT: Manufacture and distribute nonpolluting loose fill from production facilities located inside major customers' plants
PROJECTIONS: A loss of $300,000 on sales of $5 million in 1997; a profit of $3.6 million on sales of $20 million in 1998
COMPETITIVE ADVANTAGE: Lets shippers be environmentally responsible without paying more or sacrificing quality; dependable, just-in-time delivery
HURDLES: Persuading customers to devote 1,500 square feet to Biofoam production; overcoming quality concerns
NAME: Ed Alfke
FAMILY: Divorced; one daughter, one son
EDUCATION: High school diploma
PERSONAL FUNDS INVESTED: $5 million
EQUITY HELD: 60%
PREVIOUS JOB: Headed numerous start-ups, including Rent-a-Wreck, a car-rental company; and Jean Jungle, a Canadian retail chain
|FINANCIALS (in thousands)*||1997||1998||1999|
|Interest, depreciation, amortization||$300||$900||$1,700|
What the Experts Say
Is edible loose fill justtoo weird?
Possibly. Ken Starrett, marketing director of American Excelsior, a Biofoam competitor, has seen the salsa dish at the Biofoam booth at trade shows and cringed. "If you start doing that, you've entered yourself into the world of food items, and a food item is not accepted," he says. Not that Biofoam is seriously suggesting that anyone eat the stuff, of course. It's just that the association is all wrong. Who wants food in his warehouse? "That's why popcorn isn't recognized as packaging material," says Starrett.
Is being green a marketable advantage?
Maybe not as much as it used to be. Alfke believes Biofoam's story is so compelling he can sell it to anyone, but he doesn't always get the chance. Reports filtering back to Phoenix from Biofoam's two East Coast sales reps indicate a disheartening lack of environmental consciousness in 1996. "That was something we worried about three years ago," said one New Jersey purchasing agent as he showed the Biofoam sales rep the door. Starrett, whose company introduced the first starch-based loose fill in 1991, says, "The newness has worn off. People don't jump when they see it anymore." Nancy Pfund, general partner of Hambrecht & Quist's Environmental Technology Fund, agrees that the clamor has subsided in recent years but thinks that's misleading. Companies have "internalized a lot of environmental procedures without making a lot of noise about it," says Pfund. "You also have younger people who grew up learning about the environment in school now entering the consumer market. That's a very strong trend."
Can Biofoam make good on the quality promise?
That remains to be seen. Alfke says he believes Biofoam is so good that companies "have an obligation to make that choice." Maybe, but try telling that to a plant manager who has legitimate worries about weight (like other starch products, Biofoam is heavier than polystyrene), dust, the impact of temperature and humidity fluctuations, and vermin. Reviews from Biofoam's own customers have been mixed. Mark Iaquinto, facilities manager at MicroAge's Tempe warehouse, had been searching for an acceptable alternative to polystyrene and believes he's finally found it in Biofoam. Norbert Schneider, president of Fuller Brush, in Great Bend, Kans., wants just as badly to believe in Biofoam but needs to see results soon. One year after Biofoam set up shop in his plant, he's still not happy with the way the product crumbles in boxes filled with sharp-pointed brushes. Alfke says his company is working on the problem. Jim Jensen, marketing manager of Free-Flow Packaging, is less sanguine. "You can't make a starch product that works as well as plastic," he says flatly.
Is on-site production a stupid idea?
No, Alfke insists, although so far it's been a tough sell. Alfke says Biofoam needs 16 production units up and running in order to turn the profit corner; so far it has 5. Only 2 are operating inside customers' plants: at the Micro-Age distribution center in Cincinnati, and at PaperDirect, in Lyndhurst, N.J. Six more units are slated to come on-line this fall. Of those, 3 will be housed in freestanding manufacturing facilities and feed into normal distribution channels--an effort, Alfke says, to trade margin for volume in the short term and boost Biofoam's microscopic market share. For all that, Alfke's still a believer in on-site production. Others aren't so sure. Starrett says, "I can't imagine a customer being too receptive to having a piece of equipment they're not familiar with in their plant"--not to mention an employee who reports to someone else. Jensen wonders why "anybody would take out 1,500 square feet of stuff they could sell to other people just to make loose fill."