BAB242 / SEPTEMBER 2016

Balanced Snacking

In a small apartment in Santa Monica, California, Gautam Gupta and Ken Chen found
themselves at a crossroads. “Do we pursue this business idea or call it quits?” They had just
finished running a simple experiment to test the willingness of the market to adopt their new
business idea—healthy snacking, direct to the consumer. Using Facebook to launch an
advertisement, the pair sat back and waited to see what the public had to say. Much to their
surprise, they now faced the task of fulfilling over 100 orders. Excitement gripped the two, but
reality quickly set in.

The Beginning
Gupta started his entrepreneurial journey as a child in Orange County, California. Growing up,
he was uninterested in sports and struggled with his weight. In lieu of time spent playing
outdoors, he began trying to hustle different products on the playground. What started with
selling pencils in second grade grew to selling candy and other items that might interest his
classmates. In high school, he continued his journey by creating mix tapes of popular music and
selling them to peers. Throughout school, he was an average student; he found far more
validation in entrepreneurial rather than academic endeavors.
Gupta’s entrepreneurial aspirations were largely influenced by his family. Both of his
grandfathers had started companies in the steel industry of India. His mother worked for Silicon
Valley Bank, which actively supported early-stage entrepreneurial companies. His father worked
in the technology industry. Family conversations were always about business and opportunities.

College Years
Based on his entrepreneurial aspirations, Gupta chose to attend Babson College, which
immersed him in entrepreneurship. While coursework deepened his knowledge, extracurricular
opportunities such as the entrepreneurship affinity dormitory E-tower, which grouped like-
minded students together, were a huge influence. He explained the effect of the college. “Life at

This case was prepared by Andrew Zacharakis, John H. Muller Chair in Entrepreneurship at Babson College, Eric
Berglind, Babson MBA 2016, and with support from the John H. Muller, Jr., Endowed Chair in Entrepreneurship at
Babson College. It was developed as a basis for class discussion rather than to illustrate either effective or ineffective
handling of an administrative situation. It is not intended to serve as an endorsement, source of primary data or
illustration of effective or ineffective management.

Copyright © 2016 Babson College and licensed for publication to Harvard Business School Publishing. All rights
reserved. No part of this publication can be reproduced, stored or transmitted in any form or by any means without
prior written permission of Babson College.

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Babson reinforced my entrepreneurial aspirations. All the businesses I started as a kid were fun,
but at Babson I realized I could do something much bigger. Not only were the classes focused on
entrepreneurship, but everyone at the school was talking about starting a business.”
E-Tower and other Babson student organizations provided resources for entrepreneurs
including networking, conferences, speaker series, and mentorship. A key event that helped
shape Gupta’s experience was the annual rocket pitch where students and alumni gave a three-
minute business pitch in front of interested investors and collaborators. Gupta described the
presentations. “We called it pitching to the bullpen. It allowed you to present ideas and get
feedback from fellow students, professors, experienced entrepreneurs, and investors.”
At his first rocket pitch, Gupta formed a connection that altered his path. A partner from the
venture capital firm General Catalyst was judging pitches that day. While Gupta was not
pitching at this event, he was helping with logistics and happened to strike up a conversation.
The partner was so impressed by his conversation with Gupta that he invited him to intern at
General Catalyst. From his junior to senior year, Gupta interned part-time during the school
year and full-time during the summer. Upon graduation, he received and accepted the offer of a
full-time position with General Catalyst, where he was exposed to numerous startup enterprises.

General Catalyst
It was 2007 when Gupta stepped into this first full-time position with General Catalyst. Things
went well for him and for the company until the economic crash of 2008. General Catalyst
became very conservative in their approach as many businesses were struggling. Gupta noted,
“There was a sense of fear that had come over the firm and the venture capital industry as a
whole. Every investment decision was met with questions building on more questions.”
During 2008, VC firms were reluctant to deploy capital into new investments and started
“pruning the bush,” meaning they cut follow-on investments to all but the most promising of
their portfolio companies. However, General Catalyst persevered and in 2010 decided to expand
operations beyond Boston. Gupta was given the opportunity to move to Silicon Valley and open
a new office for General Catalyst.
He embraced this experience as the sole employee at this new location for about six months.
During this time, he was tasked with developing the West Coast brand of General Catalyst. He
found potential investments that focused on e-commerce and software as a service (SaaS). One
company left an impression on Gupta, The Honest Company, a direct-to-consumer (D2C)
company focused on baby products and founded by the American celebrity Jessica Alba, among
others. The D2C business model intrigued Gupta. A D2C company formed a strong relationship
with the customer. The Honest Company did not rely on distribution channels such as Walmart;
such channels often had too much power in the relationship. D2C companies did not have to
fight for shelf space with competitors. Instead, their direct connection to the customer allowed
them to understand customer desires and modify their offerings accordingly. Gupta wanted to
explore this business model more deeply.

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A Partnership in the Making

Chen had known Gupta since college. Chen grew up in an entrepreneurial family, although the
family was entrepreneurial by necessity rather than by choice. The family had immigrated to
America when Chen was young. They came looking for a better life and journeyed to where other
relatives had gone. Upon arrival, with little English proficiency, the parents relied on their
family ties in the United States to gain employment. All Chen’s relatives were in the restaurant
business at the time, so by association Chen’s family was in the restaurant business. Chen’s
family soon started its own restaurant where Chen worked while he was growing up.
Chen, like Gupta, found extracurricular activities more fulfilling than his studies. He was elected
student council president and enjoyed playing basketball in high school. He found identity and
philosophy in sports, stating, “Sports teaches about hard work and merit. There is not much luck
involved. If your coach yells at you, you learn not to take it personally. He is trying to help you
improve so that the team will win. If you’re benched, it means you’re not as good as the player in
front of you. I like this merit-based system. It motivates me to be my best, enabling me to
contribute to the team effort.”
Chen viewed business similarly to sports; it should be merit-based. “If you’re the best you can be
and you have a strong team, you can win.” This attitude drew him to Babson College where he
met Gupta. Both lived in the E-tower and became roommates. Before entering Babson, Chen
had pursued entrepreneurial ventures. He acquired a realtor license and during college,
continued to pursue real estate in addition to involvement at school. He had a particular interest
in residential real estate and was easily able to raise funds via credit cards to acquire, renovate,
and flip homes.
Chen graduated from Babson in 2006 and immediately went to work for J.P. Morgan & Co. in
real estate finance. While he pursued his passion for real estate, he explored other
entrepreneurial interests after work hours. Around 2008, he noticed that with the emergence of
Facebook and social media, advertising was moving online. A number of Babson-based
companies were doing well in this space, so he decided to pursue it further. Over the next few
months, he moonlighted by working with advertising agency companies on improving their
online advertising for clients. He learned how to execute online advertising more effectively than
the agency companies for which he moonlighted. The inflection point came when revenue from
his side activities exceeded income from his day job. He thought to himself, “I have to create my
own agency. This is a new industry, and because I’m young and unbiased by how things have
always been done, I have the ability to learn it better than a seasoned marketing veteran.
Experienced ad people are stuck in their offline world. My youth and understanding of the
online world will allow me to leap ahead of existing players. I have an unfair advantage.”
With the help of friends from Babson, Chen launched his online advertising agency in 2009, W
Media, which developed a performance advertising platform empowering clients to access
consumers cost-effectively across digital media channels. W Media became one of the first
advertisers for Facebook. When W Media hit revenues in the tens of millions, Chen sold the firm
and started looking for his next venture. Throughout Chen’s entrepreneurial journey, he and
Gupta kept in touch. Chen recalled, “I saw Gautam as an exceptionally strong team member. He
was articulate, reliable, and carried himself in such a way that he earned respect from everyone
he worked with.”

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Gupta likewise felt deep professional respect for his old college friend and roommate.
They knew they wanted to start a company together, but the question was, what kind of
company?

The Seeds of an Idea

Armed with years of investor experience and industry knowledge, Gupta was ready to pursue his
own venture. However, he wasn’t sure what kind of business to start. Simultaneously, Chen was
planning to sell W Media and thinking of his next move. They connected and started
brainstorming new business ideas to pursue together. Gupta was still working at General
Catalyst but trying to nail down the right business idea, and Chen was available to pursue
something new. Gupta recalled, “We met up and started laying out the criteria for our new
business idea. We wanted to work on something we were passionate about, but most of all we
wanted to love what we were working on.”
With that mindset at the core of their brainstorming, they started exploring shared interests.
They were passionate about food, but their love of food stemmed from different origins. Chen
had grown up working in a family restaurant where he developed a love for working with food.
Gupta had struggled with food early in life, given that he was not very active and had poor
dietary habits. He developed a weight problem that plagued him until his senior year of high
school. Six months before Gupta started attending Babson College, he drastically changed his
eating habits and worked hard to bring his weight down. He successfully lost 70 pounds by the
time he started college through food management versus crash dieting and extreme exercising.
His habits transitioned from unhealthy snacking to a more balanced diet. With Chen’s
experience in the restaurant industry and Gupta’s analytical approach to a balanced diet, food
was where they wanted to work. Where in this large opportunity space should they launch a new
business?
With a shared mission, they proceeded to do as much market research as possible. They formed
a new question, “What is not being done in the food industry?”
Their secondary research showed interesting statistics about the industry. The U.S. snack food
industry brought in revenue of $37.6 billion in 2015 and was projected to continue growing by
3.6% annually.1 A study conducted by the University of North Carolina analyzing snacking
trends between 1977 and 2006 showed that children were snacking as many as three times a day
while adults were snacking only two times. However for both groups, this was one more snack
per day than in 1977.2 With the steady growth in leisurely snacking, obesity rates in the United
States had grown as well. In 2012, 34.7% of the U.S. population was obese.3 Snacking seemed to
be a lucrative industry, but it was also a main cause of obesity and associated diseases. Class
action lawsuits against the snack and fast food industries started to rise. The lawsuit Pelman vs
McDonald’s Corporation targeted the fast food giant McDonald’s. However, the court ruled that
eating McDonald’s fast food and snacks was the choice of the individual, not the responsibility of
the company.4 This precedent held for other cases brought against large fast and snack food

1
http://clients1.ibisworld.com/reports/us/industry/default.aspx?entid=271, Snack Food Production in the US,
August 2016.
2 Crowley, C. The Snack Food Nation: A culture of near-constant eating contributes to the obesity epidemic. March

26, 2012. Retrieved from: http://www.timesunion.com/living/article/The-snack-food-nation-3430561.php.

3 Obesity Rates & Trends Overview: Obesity Rates Still High. September 22, 2016. Retrieved from:

http://stateofobesity.org/obesity-rates-trends-overview/.
4 Wilensky, S., and O’Dell, K. Where’s the Beef?-The Challenges of Obesity Lawsuits. Bloomberg, July 18, 2013.

Retrieved from: http://www.bna.com/wheres-the-beef-the-challenges-of-obesity-lawsuits/.

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 Balanced Snacking
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companies. Based on lawsuits and obesity rates, and also on statistics about snacking, would
people want healthy alternative snacking options?
Gupta and Chen were intrigued. They continued to investigate the industry, now focusing on
competitors and what they were doing in the market. Walking around a grocery store, they saw a
clear division in foods that were for sale: fresh produce and packaged goods. They quickly
decided against entering the fresh produce area due to the lack of differentiation. Chen noted,
“People pay a premium for branded packaged goods. It doesn’t make sense to enter the non-
branded fresh food portion of the market. Margins are low and it is expensive to brand produce.
They decided to analyze packaged food competitors. They found this market more attractive;
products were highly differentiated from brand to brand, there was an abundance of choice, and
margins were higher.
They recognized the opportunity to create exciting businesses in the snacking segment. They
could create a new brand, as Babson alum Pete Lescoe had done when he founded Food Should
Taste Good. They could enter the huge market of dieting, which earned revenue of $6.7 billion in
2015.5 They needed time to brainstorm, so they flew to Santa Monica, California, where a former
classmate made his offices available for them to use. During a long weekend, they examined the
question of how to make snacking healthier. Taking a break from brainstorming, they walked
through the Santa Monica farmers’ market. Strolling by vendor stands, Gupta noticed some
flavored almonds and was intrigued. Gupta was thinking of how new and unique flavors could
be incorporated into snacks like almonds, and Chen was wondering how farmers’ market quality
could be brought to the masses.
They went to local grocery stores and observed what consumers did when purchasing snack
foods. They noticed customers checking labels to determine allergy or dietary constraints. This
finding led them to a theory that if they could create a way for people to tell them their allergy
and dietary restrictions, they could offer products tailored to accommodate individual
customers. They noticed that although businesses were moving online, for example with books
or electronics, online food was still underdeveloped.

Testing Ideas
The biggest goal now was to prove they could garner interest in their new ideas. They quickly
ruled out trying to develop a product that would go on a grocery store shelf. Grocery stores
charged slotting fees for shelf space, and this gave power to the distribution channel. They
reasoned it would be difficult to get deep intelligence on a customer if they had to go through the
distribution channel to acquire information. The time to research and develop healthy snacks,
and to identify partners who would display these snacks on their shelves, would take months if
not years. They determined there was no way to develop an advantage over the competition with
this model. Gupta recalled The Honest Company and wondered whether it made sense to go
D2C; why not build a company that provided healthy snacks through the mail to customers on a
monthly basis? Their next step was to test whether online snacks would sell.

5http://clients1.ibisworld.com/reports/us/industry/default.aspx?entid=1719, Weight Loss Services in the US, August

2016.

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 Balanced Snacking
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Using Chen’s experience with Facebook and online media, they set up a landing page with snack
options as shown below.

Source: © Gautam Gupta and Ken Chen 2016. Used with permission.

The first test was successful. More than 100 people signed up and asked to join, agreeing to pay
a monthly subscription fee of $22. The partners saw two options for a reply: respond with an
email explaining the company did not yet exist, which had the potential to frustrate would-be
customers and lead to an online backlash; or try to fulfill these orders, testing the hypothesis
that they could produce a product that customers wanted.
They ran to the local Costco and other bulk food stores to pull together enough product to start
creating four or five different snack bags to offer customers. They packed all snack types into
each single bag so that each bag provided a variety of healthy snacks. With labels bought at the
local Staples store, they started naming their new products and quickly displayed them on a
single-page website.

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Source: © Gautam Gupta and Ken Chen 2016. Used with permission.

The whole endeavor cost very little—only the cost of buying and repacking the snacks, and the
personal time to put up the webpage and Facebook sites. This small test seemed to confirm that
people would be willing to buy snacks online and better yet, on a monthly basis. However, online
food had a troubled history.
One of the pioneers in the online food service market had been Webvan. This company offered
premium products at reasonable prices shipped directly to home or office. The concept was to
save customers time and effort by taking advantage of the proliferation of Internet-based
startups during the late 1990s. Unlike what Gupta and Chen were proposing, Webvan had
allowed customers to order groceries online with home delivery in 30 minutes or less. Webvan
appeared likely to flourish with one of the largest IPOs in Silicon Valley history, but went
bankrupt in 2001 due to high capital costs and over-expansion, spending more than $800
million in the process. Amazon later acquired the company but made some changes.6 Gupta and
Chen believed Webvan’s problem was the distribution channel: it sold goods a customer could
buy in a grocery store, meaning little margin and high operating costs. With this and other
business failures in the market, Gupta and Chen wondered how to do better.

6Relan, P.,Techcrunch.com. Where Webvan Failed and How Home Delivery 2.0 Could Succeed, September 27, 2013.
Sourced from: http://techcrunch.com/2013/09/27/why-webvan-failed-and-how-home-delivery-2-0-is-addressing-
the-problems/.

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What’s Next
The partners reviewed other questions. Would a D2C model work for snacks? How would one
scale such a business, especially sourcing raw ingredients? How many varieties of snacks were
needed? Should they be changed every month? Could a company build its own branded snacks
which would allow higher margins, or would people prefer brands they already knew? Gupta put
together a simple pro forma income sheet of what the business might look like, and it seemed
promising; but many assumptions required validation. (Please see Exhibit 1.) Gupta and Chen
wanted to proceed, but how could they start validating these assumptions at a low cost?

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Exhibit 1
Pro Forma Income Sheet

2016 2017 2018 2019 2020

Subscribers (yr avg) 10,000 20,000 40,000 100,000 250,000

Revenue
Subscription $ 2,394,000 $ 4,788,000 $ 9,576,000 $ 23,940,000 $ 59,850,000
less discount $ (299,250) $ (598,500) $ (1,197,000) $ (2,992,500) $ (7,481,250)
E-commerce $ 300,000 $ 500,000 $ 750,000 $ 1,500,000 $ 2,500,000
Total Revenue $ 2,394,750 $ 4,689,500 $ 9,129,000 $ 22,447,500 $ 54,868,750
Cost of Goods Sold $ 1,677,600 $ 2,995,800 $ 5,272,800 $ 13,182,000 $ 32,955,000
Gross Profit $ 717,150 $ 1,693,700 $ 3,856,200 $ 9,265,500 $ 21,913,750
Margin 30.0% 35.4% 40.3% 38.7% 36.6%
OpEx $ 750,000 $ 1,250,000 $ 2,000,000 $ 3,000,000 $ 6,000,000
Marketing Spend $ 1,000,000 $ 2,000,000 $ 3,000,000 $ 3,000,000 $ 4,000,000
EBITDA $ (1,032,850) $ (1,556,300) $ (1,143,800) $ 3,265,500 $ 11,913,750
EBITDA % -43% -33% -13% 15% 22%

Assumptions
Subscription Rate $19.95 $19.95 $19.95 $19.95 $19.95
Intro. Discount (3 mos) 50% 50% 50% 50% 50%

Source: © Andrew Zacharakis 2016. Used with permission.

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