Honest Diaper

Building an ecommerce company is expensive. It’s also binary. Companies either find success and experience massive growth, and thus are able to attract capital to chase scale and sustainability, or they sputter along until eventually running out of cash.

Brian Lee has caught that ecommerce growth wave twice. First with ShoeDazzle, and now with his second company, The Honest Company, which he has ushered into the $50 million-plus in venture backing club (or three times if you count LegalZoom, which has a subtly different business model). This as news trickled out this morning that, Honest, the subscription eco-friendly household products brand co-founded by Lee and celebrity mom Jessica Alba, has raised another $25 million in a Series B round led by Institutional Venture Partners (IVP), with participation from ICONIQ Capital, and existing investors Lightspeed Venture Partners and General Catalyst Partners. The round brings Honest’s total funding to $52 million since 2011.

Honest has succeeded in leveraging four of the key trends of this ecommerce 2.0 era: brand-first, celebrity, subscriptions, and brick-and-mortar distribution.

From the minute it launched, Honest, through its branding, made it clear this was a company that consumers were meant to trust. I don’t know what Lee paid for the domain Honest.com or how the trademarks were still available, but whatever the cost it was money well spent. This superficial branding combined with the affable, and aspirational quality of Jessica Alba – the anti-Kim Kardashian brand ambassador – means that Honest is viewed as a company created by a mom, for moms – even if it wasn’t. This feeling encourages consumers to believe that it would never sell anything that could harm their families. Makes you want to go out and buy some diaper wipes and laundry detergent, doesn’t it?

Honest has also leveraged free (and typically glowing) press thanks to Alba’s involvement. But that hasn’t stopped it from investing heavily in marketing and customer acquisition (which are really two sides of the same coin), hence the need for $52 million just two years into the business.

Like Lee’s last company ShoeDazzle, Honest has relied heavily on subscriptions. Consumers are invited to sign up for the recurring delivery of monthly bundles – you pick any five items, and can change the mix each month. Bundles cost between $35 and $80, depending on their contents, and offer 35 percent savings over the sticker price. We’ve said in the past that slapping a subscription model on any ecommerce business is not a magic bullet. Unlike with shoes, which are a frivolous self-indulgence that women can justify at $39.95 but are hardly a monthly need, diapers and cleaning products are a consumable utility that make sense on subscription. And for Honest’s target demo of busy but eco-conscious moms, convenience is a real factor.

Lee hasn’t limited Honest to selling online, however. The company has negotiated physical store distribution partnerships with Costco and numerous mom and pop boutiques. This online to offline trend is one that others in the category from Warby Parker to JustFab have also explored and which is becoming more widely accepted. Honest likely gives up a portion of its profit margin by selling through Costco, but it gains access to an entirely different demographic than the one whose first instinct is to head online after having a baby to set diapers to auto-delivery. Presumably, every package sold in the warehouse superstore invites consumers to become a member at Honest.com, making it a potentially less expensive customer acquisition channel than online and television advertising. Expect this is to play a big role in Honest’s future growth plans.

Honest has in the neighborhood of 88 employees, according to its LinkedIn profile, a large percentage of which are in customer service and social media – the ecommerce equivalent to enterprise’s inside sales teams. Lee recently moved the company into a swanky new headquarters in Santa Monica, which appropriately, given its family focus, includes a child care center, and also took out a lease on 130,000 square feet of industrial space in Ontario, California, which the company uses as a fulfillment center.

Did we say already that ecommerce is expensive? It’s even more so when you design your own products from scratch, as Honest does, particularly in the low margin CPG (consumer packaged goods) category. Honest is competing with Procter & Gamble, Unilever, and other CPG giants that are willing to give away diapers in hospitals and carpet bomb consumers with advertising in order to protect their market share. The company must also outduel Amazon and its subsidiary Diapers.com for ecommerce supremacy.

This presumably won’t be the last money Honest will need to raise. By comparison, Lee’s ShoeDazzle raised $66 million before ultimately sucumbing to market pressures and selling to competitor JustFab in September. Fab has raised a staggering $336 million, and is reportedly nowhere near profitable. There’s no direct comparable in the venture-backed CPG world, but Honest is facing similar challenges as these fashion and lifestyle etailers.

Honest has been tight lipped with details of its financial performance, but the chatter around the industry is that it’s growing top line revenue at a healthy clip and this in no way smoke and mirrors. I heard from various sources around LA earlier this summer that the company had grown beyond a $50 million per year revenue run rate. Whether that was accurate at the time and where the company is today is unclear, but obviously IVP was impressed with what it saw when looking under the hood. Notably, IVP is a notorious growth investor, but participated in both Honest’s Series A and Series B rounds. This likely speaks to Lee’s past track record – he founded Honest before ShoeDazzle’s well documented problems – and the size of the opportunity he’s tackling.

That said, ecommerce is incredibly difficult at scale and requires operational excellence. Lee admitted as much during our PandoMonthly fireside chat when he discussed the rising cost of overseas shoe production and online customer acquisition, as well as the debacle that was the appointment of Bill Strauss as his CEO replacement at ShoeDazzle. Top line revenue is only a fraction of the story, and we’d know far more about the health of Honest with gross margin or eventually net income metrics. We’ll continue to dig for this information.

In the meantime, Honest has a new pile of cash with which to double down on its existing strategies and, according to a statement from the company today, focus on international expansion. With the latest funding, however, comes increased expectations and pressures for Lee, Alba, and company to turn Honest from a nice business into a behemoth.

The road between here and there is littered with landmines and will require deft navigation. Lee has reached this point twice before with LegalZoom and ShoeDazzle, but has yet to punch across the finish line with a blockbuster exit.

IVP made a big bet today that Honest company will be the first.