For Tutor: Homework Pro - Case Anaysis - Due 4/20 -

March 23 — April 5, 2015

During March Madness, some teams don’t play but still get paid 32

Sears’ franchisees have daddy issues 29

Hackers’ latest target: Law firms 30

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In a crowded lab on the edge of Copenhagen, food scientists at Swiss biotech company Evolva Holding are scrambling to help reinvent one of the world’s most popular drinks. The loca- tion is no accident. The Danish city’s Carlsberg brewery discovered a way to isolate pure yeast cells in 1900, which was crucial to the mass production of beer, and the town has been a hub of fermentation innovation ever since. But instead of designing a new Pilsner or bock, these researchers are harnessing high-tech yeast to craft a far different quaff: the perfect soda.

In biotech labs from California and New Jersey to Denmark, Coca-Cola, PepsiCo, and their suppliers are racing to find the industry’s holy grail—a soda that tastes as good as the iconic colas, is sweetened naturally, and has zero cal- ories. Falling out of sync with consum- ers’ taste buds isn’t the issue. A century after first appearing as a drugstore elixir, the sweet, caramel-colored bev- erage remains the world’s most popular packaged drink. Globally, colas account for more than half of all sodas sold. The challenge for the $187 billion soft drink industry is giving con sumers in devel- oped markets the sugary taste they want without giving them the mouthful of calories they don’t. Concerns about obesity and health have led to nine years of falling U.S. soda consumption.

The soda giants can’t rely on existing diet versions of their namesake colas, as consumers are shying away from the artificial sweeteners they contain, including aspartame. Critics have blamed the ingredients—rightly or not— for everything from weight gain to cancer. Diet Coke is losing U.S. sales at 7 percent a year, almost double the rate of decline of American cola sales overall. So Coke and Pepsi are turning to science to save their cola businesses, which take in about two-thirds of the industry’s U.S. sales. “If you can crack the perfect sweetener, that would be huge,” says Howard Telford, an analyst at researcher Euromonitor International.

America’s 4 percent-a-year drop in cola sales has wiped out $2.7 billion in annual revenue over the past five years, according to Euromonitor. The decline has pushed Coca-Cola, PepsiCo, and Dr Pepper Snapple, the three largest U.S. soda makers, to

▶▶Betting science can goose growth, the cola king embraces stevia

▶▶“If you can crack the perfect sweetener, that would be huge”

Coke’s Unlikely

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crank out new beverages, including energy drinks and even designer milks. But soda makers have too much at stake to simply resign themselves to cola’s slow decline.

Researchers are focusing on finding new sweeteners for a simple reason: That’s where almost all of a soda’s cal- ories come from. The classic American cola is 90 percent carbonated water; the next most plentiful ingredient is calorie-laden sugar or high fructose corn syrup. A 12-ounce serving has 140 calories or more, as much as three Oreo cookies. But soda makers must tread softly when changing sweeteners, because they also help provide what food chemists call mouth-feel—the liq- uid’s sensation on the tongue and in the back of the throat.

In recent years the industry has settled on stevia, a plant long chewed by the Guarani Indians of Paraguay, as the most promising no-calorie sugar substitute. The U.S. Food and Drug Administration in 2008 green- lighted use of a key stevia molecule, called rebaudioside A, that’s as much as 300 times sweeter than sugar. By 2014 stevia accounted for 11.4 percent of the global sweetener market, says researcher Future Market Insights; it forecasts stevia’s share among sweet- eners will grow to 15 percent by 2020. Coca-Cola uses stevia variants in at least 20 products globally, including the green-labeled Coca-Cola Life that began a slow U.S. rollout last year. It’s also used in Pepsi True, which is sold in a few U.S. cities and on Amazon.com.

Although reb A works well in drinks such as tea, it faces a hurdle in cola: The more it’s used, the more the mol- ecule’s licorice aftertaste lingers. To

blunt that off taste in Coca-Cola Life

and Pepsi True, their makers have mixed stevia with some sugar. The drinks have a third fewer calories than traditional sugared colas but far more than an all-stevia product.

Scientists have since found dozens of stevia molecules with less bitter after- tastes. These molecules make up less than 1 percent of the leaf, so using them could require more land and water to grow the plant, which would drive up costs. To tackle the supply problem, Evolva’s scientists in Copenhagen are working with stevia genes that gener- ate the best-tasting molecules. Those are spliced into baker’s yeast, which is fed glucose to trigger fermentation. The process creates precise copies of the desired molecule, like a biological Xerox machine. “It’s as natural as beer or bread,” says Evolva Chief Executive Officer Neil Goldsmith.

Theoretically, growing the molecules in a yeast tank would mean no limit to the stevia supply. And “the sustainabil- ity arguments are clear,” Goldsmith says. The goal is to prove yeast can produce the molecules at a reasonable price on an industrial scale. Evolva has teamed up with agribusiness giant Cargill, a longtime sweetener supplier

to Coca-Cola. The ingredient will probably be ready next year, says Scott Fabro, Cargill’s global business devel- opment director. In February, Cargill conducted an internal taste test of the sweetener in tea, berry water, lemon- lime soda, and cola. “What we have seen has delivered significantly better taste,” he says. “Sugarlike taste, no aftertaste, no bitterness.” In an e-mail, Coca-Cola said it continues to work with suppliers “to pursue innovations that provide safe, great-tasting sweeteners that complement our diverse range of ready-to-drink beverages.”

Biotech companies including DSM in the Netherlands are working on their own fermentation methods. At a lab in North Brunswick Township, N.J., run by plant-science company Chromocell, Coca-Cola is hedging its bets. Work there is centered on enhanc- ing sugar’s taste, so less is needed to offset the aftertaste of stevia. The goal is to cut the sugar by at least 90 percent without losing any of the clean sugary taste. Chromocell takes taste receptor cells from animals and records how they respond to contact with specific sweet molecules from plants. “We have the technology to make them [react] exactly like they are in your mouth,” says Chromocell CEO Christian Kopfli.

The various sweet plant molecules are cataloged in a huge flavor library and mixed in various combinations to achieve maximum sweetness and minimal calories. So far, Chromocell has replaced as much as 33 percent of the sugar that’s mixed with stevia without degrading taste. Getting to 90 percent may take five years more, Kopfli says.

PepsiCo’s partner, Senomyx, in San Diego, is also focused on flavor enhancers and uses a process similar to Chromocell’s. But Senomyx works with

DATA: EUROMONITOR, U.S. FOOD AND DRUG ADMINISTRATION

Sucralose

Brand name Splenda

Sweetness potency 600 times table sugar

FDA approval 1998, 1999*

Aspartame

Brand name Equal

Sweetness potency 200x table sugar

FDA approval 1981, 1983, 1996

Stevia

Brand names Truvia, Pure Via

Sweetness potency 200x–400x table sugar

FDA status High-purity varieties generally recognized as safe

U.S. Cola Sales Fizzle

2001 2014

-4%

0

4% Ninth straight

decline

War of the Sweeteners

Acesulfame Potassium

Brand names Sunett, Sweet One

Sweetness potency 200x table sugar

FDA approval 1988, 2003

Saccharin

Brand name Sweet’N Low

Sweetness potency 200x–700x table sugar

Year discovered 1879

High Fructose Corn Syrup

Sweetness potency Generally the same as table sugar

Sugars present Glucose, fructose

Year-over-year change

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some inventory hard to procure and being held responsible for goods never received. They also say the stores are suffering from their connection to the former parent company, which has posted $7.1 billion in losses since 2011.

“Their fate is really intertwined with that of Sears,” says Matt McGinley, an analyst at research firm Evercore ISI. “Given that Sears has issues over the long run, does this hurt the franchisees? I think the answer is definitely yes.” The spinoff was sup- posed to give owners more autonomy to run their businesses; the parent company would benefit from the $446.5 million the deal put in its coffers, as well as royalties and service fees. “They did this because they needed liquidity,” McGinley says.

Appliances account for most of the sales at Hometown stores. The cate- gory grew steadily as the U.S. economy improved after the recession. In 2011, the year before the spinoff, the Hometown operation brought in less than 6 percent of Sears’s sales but about 25 percent of the com pany’s profit. Hometown’s properties include about 930 Sears Hometown, as well as 85 Sears Hardware, 115 Sears Outlet, and 100 Home Appliance stores.

Sears Holdings, which still owns the Sears and Kmart department stores, sup- plies about 84 percent of Hometown’s merchandise. The two companies share a top stockholder, Edward Lampert, chairman and chief executive officer of Sears Holdings. The spinoff was Lampert’s decision, part of a broader breakup that has included sales of some Sears locations and the separation of

the Lands’ End division last year. Hometown collects merchandise pay- ments from owners and pays them commissions.

Shumard says he fought with Sears Hometown over a lack of inventory and payments. By February 2014, he

wanted out and handed ownership over to Hometown. Richard Hansen says the spinoff made running his business in

Picayune, Miss., more difficult: “I lost thousands of dollars because I could not get lawn and garden product. I didn’t have basic washers and dryers in stock.”

The money Hometown pays owners as part of a bonus program for assem- bling goods themselves wasn’t worth it, Hansen says: “I’m spending $15 to $20 to assemble a grill I’m going to make $8 on.” Hansen handed his store over

to Hometown in 2013 before his contract was up. He tried but failed to find a buyer willing to cover the $60,000 he paid for the store in 2001. Bizbuysell.com, which adver- tises franchises and other busi-

nesses for sale across the country, lists prices on 53 Hometown stores ranging from $4,000 to $850,000. All but seven are asking less than $100,000.

Sears Hometown disputes the owners’ claims, saying it’s made promised deliv- eries and that the stores are stocked. “The amount of those inventories has remained largely unchanged for several years,” says Jayne Levy, a Hometown spokeswoman, adding, “We do not charge our dealers for merchandise that they do not receive.” And, the company says, complaints that sales commis- sions are lower today than they were before the spinoff are unfounded. Sears Holdings spokesman Chris Brathwaite declined to comment, saying Sears Hometown is now a separate entity.

Hometown owners complain they are in direct competition with Sears. The latter’s e-commerce site, Sears.com, and the department stores offer free delivery and installation on many items, whereas Hometown stores run their own delivery programs and must cover many of those costs.

Competition with Sears is a key com- plaint in a class-action lawsuit filed by owners of Hometown stores in Canada, which are still part of Sears Canada. The suit, filed in the Ontario Superior Court of Justice on behalf of about 260 stores, accuses Sears Canada of not honoring its obligations to owners, competing with them, and depriv- ing them of the ability to earn a living. The plaintiffs are seeking $100 million in damages. Owners in Canada have

Retail

Breaking Up With Sears Is Hard to Do

▶ Hometown owners say a spinoff from Sears has hurt them

▶ “Spending $15 to $20 to assemble a grill I’m going to make $8 on”

Doug Shumard had semi-retired from running an auto-service business when he decided to buy a Sears Hometown franchise in Lincoln, Ill., in 2008. The $80,000 in startup costs seemed to be a good investment. The Hometown and Outlets division was one of Sears Holdings’ most successful when Shumard bought in. The stores, total- ing about 1,300 today, are located in smaller towns across the U.S., far from the retailer’s regular department stores, and feature Sears brands, including Kenmore appliances and Craftsman tools, as well as clearance merchandise.

But ever since Sears spun off the Hometown division in 2012, Shumard and other owners say their business has gone downhill. They’re struggling to stay afloat, they say, after finding

mostly synthetic molecules. Senomyx spokeswoman Gwen Rosenberg says the research is in the “discovery phase.” PepsiCo Chief Scientific Officer Mehmood Khan declined to discuss spe- cifics about its sweetener research.

All of this science is likely to raise red flags for some consumers, who are increasingly demanding “natural” ingredients in foods and drinks, says Euromonitor’s Telford. Then there’s the cost. As with molecules created by fermentation, sweetness enhanc- ers will have to be price-competitive with sugar and artificial sweeteners to be commercially viable. So while scientists may find cells from, say, a Himalayan orchid that heighten sugar perception, they might also come at twice the cost of sugar, cautions Chromocell’s Kopfli. “Consumers are very demanding,” he says. “They say, ‘Less calories and same taste, but I’m not willing to pay more for whatever it is.’ ” �Duane D. Stanford The bottom line U.S. cola consumption is falling by about 4 percent a year. Soda makers are seeking new sweeteners to reverse the trend.

Sears Outlet store, N.C.

Sears Hometown and Outlet stores

Sears Holdings

Change in Annual Revenue Since 2010

2010 2014

-20%

0

10%

29

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