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Nick Kozak for the Toronto Star
Case Studies
Posted: November 26, 2013
by Andrew Seale

A fizzy, fermented health drink hits a supply chain snag as sales heat up

When Tonica Kombucha first moved into its new 2,600-square-foot brewing facility in August, the place was a mess.

 

“It’s an old building that was closed down for ten years and the landlords just bought and refurbished it but nothing was ready. [They] moved us in way too early,” says company founder Zoey Shamai.

 

The phone line and Internet weren’t installed and the units hadn’t been sealed off, forcing Shamai to fix up the space before beginning production of the fermented, slightly fizzy drink kombucha, a popular elixir amongst the health and wellness crowd. It’s a bit like flavoured iced tea, and Tonica’s version retails for $3.99 a bottle.

 

So far, upgrading the facility has cost the company $17,000. Shamai says the space still needs more work. Those ongoing expenses, plus a month of downtime caused by the move’s complications, have been compounded by a 13 per cent increase in rent. The situation is cutting deeply into cash flow, forcing the business to pull back on marketing efforts and concentrate solely on getting the new facility up and running.

 

Even worse, Tonica has started missing orders as a result of the interruption in production at a critical juncture — just as its customer-base booms and mainstream demand for the beverage starts to reach a tipping point.

 

“Delays like this have never happened before,” says Shamai.

 

Plus, as the company looks to meet new demands, they’ll need to establish a more efficient way to make sure production and distribution can keep pace, or risk being seen as unreliable by skeptical retailers who are always one excuse away from cutting new products off their shelves.

 

These challenges are far removed from the beverage company’s humble beginnings on a small shelf in Shamai’s kitchen.

 

A former yoga instructor, she first came across the tonic, made with live bacteria, in 2008 while studying yoga at an ashram in New Mexico.

 

“I was a bit hesitant at first because I didn’t like the smell,” says Shamai.

 

But others at the ashram touted the probiotic benefits of kombucha and eventually, she caved and tried it.

 

“It gave me a massive boost. I felt energy and was really blown out of the water by it,” she says.

 

On her return to Toronto, in 2008, she started fermenting the drink at home while teaching yoga and waitressing at Live, a local raw food restaurant. It wasn’t long before Shamai’s kombucha worked its way onto the restaurant’s menu, going by the moniker “Fairy’s Tonic.”

 

Between 2008 and 2009, U.S. kombucha sales quadrupled from $80 million to $324 million according to Kombucha Brooklyn, an American brewer and distributor.

By 2009, Shamai had moved into her first commercial kitchen.

 

The drink’s popularity south of the border spilled into Canada, and without any major competitors in the market, demand for Shamai’s Kombucha started to grow exponentially over the next two years.

 

In 2011, the company rebranded as Tonica Kombucha.

 

“That’s when things really exploded,” she says.

 

The popularity led Shamai to be featured on Dragon’s Den, Global TV, and City TV, and to add an administrative assistant, two brewers, and three employees to handle shipping, receiving and bottling.

 

Today, Tonica ships to 450 stores across Canada — from high-end fine food retailers to health food stores and coffee shops.

 

But the rapid growth has also forced the entrepreneur to leapfrog between facilities to scale with demand.

 

“We have had to delay orders as we upgrade and prepare our facility,” says Shamai, adding that a regular order from a distributor is 400-500 cases of 12 bottles per case every two weeks.

And given that the fermentation process takes half a month, four weeks of downtime is a serious blow to the company’s profits.

 

Business won’t be getting easier any time soon, says Sean Wise, professor of entrepreneurship and strategy at Ryerson’s Ted Rogers School of Management.

 

“[They have] to find a way to scale up their business [by] adding sales, distribution and revenue exponentially while keeping cost growth linear,” says Wise. “This is difficult when you produce a real product like the Tonica drink — each time you sell more, you need more materials, shipping, storage, etc.”

 

For example, each glass bottle costs the company about $0.25, and Tonica doesn’t quite have the economies of scale or the warehouse space to buy high volumes and tap into the price breaks large companies get.

 

“When you have an obstacle like that you need to find a solution like running a recycling plan, buying up someone’s extra capacity or teaming up with somebody else to produce the bottles themselves,” says Wise.

 

Shamai, for her part, says the recent downtime has given her a chance to scrutinize the company’s current processes, and she’s confident the money she spent on a more efficient system will make Tonica more scalable.

 

In the meantime she plans to spend where necessary and scale back on projects – such as advertising and running workshops – that aren’t crucial at the moment.

 

“Our stock shortage seems to have created a vacuum, so the hope is that we jump right back in with even more demand,” says Shamai.  “The mass market is really interested now in health and organics – they’re knocking on our doors to bring the product out to that market.”

EXPERT VIEWS

As Interviewed by: Rosemary Westwood

Tonica Kambucha’s current issue is the capacity constraint at its facility, causing order delays and out-of-stocks. The company has the advantage of being the first mover in the market, as well as being a particularly niche player. But a nightmare in packaged goods is having out-of-stocks and blank spaces on shelves — consumers have an opportunity to switch to competitors, customers have an opportunity to stock something else. At their current size, and in such a unique industry, this might not be disastrous for Tonica — in the short term. However, if demand for this product is in line with predictions, I’d suggest Tonica put together a formal strategic plan for how it will manage organizational growth, production capacity, supply chain, and demand planning in future — even more important if Tonica is perishable, with limited shelf-life. Relatively high variable costs, in this case, packaging, appear to be cutting into margins, so I’d suggest Tonica partner with another firm for some of its purchasing, until it achieves critical size and economies of scale itself. Proper strategic and contingency planning will help ensure that the advantages of being 'niche' and first to the market will continue to work for Tonica, as this market grows and matures.

by Brynn Winegard - Ryerson

This is a really neat company and wow, talk about successful. Zoey is doing everything well, with great sales, and even how she’s approaching the current issue by cutting back and focusing in, that’s what she’s supposed to do. Efficiency is the number one issue, so she can continue to build repeat customers. She needs to start to scale up, and she should go looking for investors. The capacity issue is a symptom. The problem is a money one. She could go to Business Development Bank of Canada with a really good business plan -- they provide some good funding and good opportunities. They’re could be opportunities in federal grant money, they like to fund new territory, and it creates jobs. Angel networks are another option, though she’s at a point where an angel network probably won’t give her enough money. There’s always venture capitalists, but they’ll probably want her soul. Some of that money could be used to get somebody or an organization that could help with production efficiencies.

by Mark Simpson - GBC

The number one reason that successful businesses file for bankruptcy is poor cash management. Though Tonica’s sales will grow exponentially, so will the costs, and the costs are going to come first. So, Zoey needs to make a realistic financial projection on profits and cash flow and she’s got to factor in rapid growth. She should start with a realistic three-year profit/loss, then monthly cash flows for the next 12 months at least, and then daily cash flows for the next three to 12 months. Next, she’s got to bring these to the bank and get a revolving line of credit to cover cash needs, which will be fast and furious during the rapid growth phase. She could also consider other forms of financing, perhaps some investors. After that, she should sit down with all of her suppliers, show them her sales projections and arrange some long term financing, so she can pay them with the actually sales. But first, she needs to get financing in place. You can’t go to the bank when you’re already overdrawn and bouncing cheques. If you go and sit down with your bank manager ahead of time, they can see the potential for the sales growth. They’ll definitely support her through those times. Tell Zoe to sit back and enjoy the ride.

by Deirdre Fitzpatrick - GBC