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How Honest Tea conquered the US beverage market

The big business of low-sugar: America is losing its sweet tooth, driving growth toward Honest Tea.

Opposition to sugary drinks is bubbling up all over the country in the form of taxes, bans and warning-label legislation in city councils and state legislatures. In the past year, for instance, Berkeley, California, passed a law taxing sugary drinks, and San Francisco now requires warning labels on bottles.

At the same time, people's taste for sparkling, sugary drinks is on the decline. According to the Centers for Disease Control and Prevention, calories from added sugars in soda are down 39 percent since 2000 as Americans worry about skyrocketing obesity rates. Two-thirds of U.S. adults are overweight or obese, a number that has been rising steadily for the past three decades.

A row of flavors of Honest Tea on a shelf at the Honest Tea Company Headquarters at 4827 Bethesda Ave, Bethesda, MD.
Evy Mages | The Washington Post | Getty Images
A row of flavors of Honest Tea on a shelf at the Honest Tea Company Headquarters at 4827 Bethesda Ave, Bethesda, MD.

Honest Tea was way ahead of the trend. The Bethesda, Maryland-based company has been pushing the low-sugar alternative for 15 years. The little company that brewed samples for Whole Foods in the kitchen of CEO Seth Goldman's house in Chevy Chase, Maryland, is now a $160 million division of Coca-Cola. The company found its niche by marketing its healthy, organic "tad sweetened" teas, and over the years expanded into a long list of products, including zero-calorie sodas, kids drinks, loose tea leaves for home brewing and summer refreshers.

The company is still growing at a healthy pace. Sales are on track to increase 20 percent, up from $134 million in 2014, and the company has made major inroads in the kids' drink category. Sales of Honest Kids, introduced in 2007, rose 37 percent between 2013 and 2014. The growing sales are a bright spot for the parent company, Atlanta-based Coca-Cola, which saw net revenue in the second quarter of 2015 fall 3 percent compared to the year-earlier period.

How did Honest Tea end up so far ahead of the curve? Part of the answer is that it actually helped create the movement. When CEO Seth Goldman got started, sugary drinks were barely on the health radar, and in the early days, some of the drinks that he introduced had so little sugar, they were rejected by consumers.

The company is also an example of the benefits and compromises that can come from an alliance with a big company. The company's buyout by Coke in 2011 was seen as a betrayal by some purists, and Goldman said he has had to carve out and protect an independent identity for Honest Tea. But Coke's distribution network has opened many more doors: Honest Tea products are now in 100,000 stores across the country.

"Coke invested in us in 2008. That year, we bought 800,000 pounds of organic ingredients," Goldman said. "Last year we bought over 6.5 billion pounds."

"I come saying, 'I'm a representative of Coca-Cola, and this is an important direction for the company.'"

CNBC interviewed Goldman about how he grew the company, if it has stayed true to its social entrepreneurship mission, and how he makes the relationship with Coca-Cola work.

"In the natural foods world, there's a mission element that's bigger than the business." -Seth Goldman, CEO of Honest Tea

Goldman, who had been working at the socially responsible investing firm Calvert Investments, founded Honest Tea in 1998 with Barry Nalebuff. Nalebuff had been his professor at Yale University, where the two talked about the need for lower-calorie drinks. Goldman remembered the idea and called Nalebuff, who had just written a case study about the Tata Tea company in India.

The duo financed the company with help from friends and family. Then, in the second year, with sales topping $1 million annually, they were able to raise an angel round.

The early years of the company were a story of bootstrapping: sales and collection calls, and finding distributors willing to take a risk. In the book "Mission in a Bottle," Goldman highlighted the role of Irving Hershkowitz, who owned the largest distributor in New York City and agreed to distribute Honest Tea based on a taste at a trade fair.

The company arrived in the media when its teas became a presidential campaign issue: President Barack Obama has been a drinker since his days as a senator; John McCain's camp used Obama's taste for the teas as a way to accuse him of elitism.

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6 ideas behind Honest Tea's success

These days, riding on Coke's distribution network, the company is moving more into the mass market. Here are six ideas that helped Goldman become a successful social entrepreneur.

1. Define success broadly.

All entrepreneurs are passionate, but the definition of success is different for social entrepreneurs, Goldman said. "In the natural foods world, there's a mission element that's bigger than the business. A buyout is one milestone of success. But the impact, scale and permanence of (a social change) is a much bigger one."

In fact, that's why he remains involved in the company. Many entrepreneurs bow out a year or two after a buyout, and Coke's buyout of Honest Tea would have made that possible for Goldman, too — he reportedly made "tens of millions" from the deal, and other employees, who had equity, made out well — some with payouts of more than $1 million. But most of Goldman's equity is still in the company, which is jointly owned by Goldman and Coca-Cola. "Its value is determined and adjusted monthly by a formula we developed and agreed upon," he said.

2. If you are in a partnership, try to make sure it's a complementary one.

In "Mission in a Bottle," Nalebuff describes what make his partnership with Goldman complementary. He identified himself as the conceptualizer — logical, analytical, fact-based; Goldman is the protector — dutiful, meticulous and supportive. Nalebuff is organized, practical and outgoing, while Goldman is optimistic, enthusiastic and values-driven, he wrote. Nalebuff bowed out of a role in the company, but he and Goldman remain good friends, Goldman said.

But good partnerships require difficult conversations, too, such as the one that Goldman said he had with executives at Coke, who wanted Honest Tea to remove the "no high-fructose corn syrup" statement from its labels. Goldman flew down to Atlanta to explain why the tag needed to stay. "To their credit, they said, 'a deal's a deal,'" he said.

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The relationship hasn't always been easy. Goldman cited a failed negotiation with Nestlé, in which Nalebuff acted without consulting him. But, ever the optimist, Goldman said the failure enabled the duo to realize what they wanted out of a deal, a knowledge they took into negotiations with Coke.

3. Focus on sales.

The company's relentless focus on sales comes through — a prominent feature of its office is a chalkboard that shows distributors' orders for the day. Each salesperson has his or her own profit-and-loss statement, Goldman said, and in the book, salespeople are drawn by graphic artist Sungyoon Choi as superheroes.

Goldman identifies his focus on sales as a key factor that has enabled him to operate fairly independently from Coca-Cola. "The fact that we've grown gives us our license to do the right thing," he said. "You have to deliver on the business plan."

4. Learn to 'fight off your back.'

To be an entrepreneur, you have to be willing to be rejected — a lot. Goldman learned that resilience partly by being a wrestler in high school, he said. "I was terrible. My first year, I was 1 and 10 — someone didn't show up, so I got the forfeit," he said. "It was particularly humiliating. But for me it was such a great thing for my character."

"But it showed me what failure is, and it showed me this is how you fight off your back."

He compares that to marketing Honest Tea, which he sees as selling against evolution.

The company has had to discontinue various products over the years, and Goldman said its first efforts to sell completely unsweetened teas were a flop. This year, the company is introducing two new teas — Ginger Oasis and Cinnamon Sunrise — with no added sugar at all. Consumers weren't ready for no-sugar drinks a decade and a half ago, but they might be now, Goldman said.

5. See time as an ally.

When Goldman was traveling in China's Anhui Province to source ingredients, he had to cross a river by raft to reach a tea garden. "I asked, 'Have you thought about building a bridge?'" The gardeners gave him four reasons why they didn't have a bridge: the high cost, the potential for flooding that would destroy it, and their worries that the equipment necessary would damage their garden.

Finally, "If there's a bridge, there's going to be a road and all this development,'" Goldman recounted. "Most Westerners would say, 'Put in a road, get the commerce, and worry about the consequences later.' This community had a different perspective."

This problem, not having a bridge, was a solution that enabled them to protect the garden for now until a better solution that would enable both development and protection came about later. "What we're trying to do is add that perspective in a lot of our practices," he said.

6. Don't delegate in the beginning.

Of course, as an entrepreneur, Goldman said, you need to develop a vision, a big picture, and get the right people recruited and hired and make sure you have the resources. It's easy to focus on those elements and delegate if you can afford to. But the lessons you learn from being hands-on are important, too.

"It's always been important to be engaged in understanding every aspect of the business," Goldman said. "I'm not the best accounting person. I'm not the best operations person, for instance. But I feel like I'm familiar with all of it."

He's also a realist. He gestures around the office, whose exposed brick walls and reclaimed office furniture give it the character of an independent company and none of the feeling of the corporate giant that now owns it. But the company's relentless focus on sales also comes through — a prominent feature of its office is a chalkboard that shows distributors' orders for the day.

Goldman identifies his focus on sales as a key factor that has enabled him to operate fairly independently from Coca-Cola. "The fact that we've grown gives us our license to do the right thing," he said. "You have to deliver on the business plan."

Join America's most influential entrepreneurs in person at iCONIC in Washington, D.C., on November 11, 2015.

— Elizabeth MacBride, special to CNBC.com