I-1107: Soda tax has its sour note for a low-sugar maker

DRY Soda, which has offices in Pioneer Square, grew out of a quest for a non-alcoholic drink that would be worthy of pairing with fine food. But the low-sugar result got caught in a state revenue fix.

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Sharrelle Klaus, founder of DRY Soda

DRY Soda, which has offices in Pioneer Square, grew out of a quest for a non-alcoholic drink that would be worthy of pairing with fine food. But the low-sugar result got caught in a state revenue fix.

Sharelle Klaus is the founder and chief executive of a company called DRY Soda, whose tony headquarters are located on the ground floor of an office building at First Avenue and South Jackson Street. Her neighbors include an art gallery, a fine woodworking shop, the arts organization One Reel, and the Italian restaurant, Il Terrazzo Carmine.

Before getting into the soft drink business, Klaus was a consultant for the accounting firm Price Waterhouse (now PwC), and later an internet entrepreneur who started a web portal for tweens that did not survive the bursting of the internet bubble.

She owes her entry into the beverage industry to her ambition, her ability to analyze the market, and mostly her uterus.

“Really the idea came to me because I enjoy pairing wine with food, but I kept getting pregnant,” Klaus said. “Four times.”

Unable to drink wine, she created a soft drink that she considered worthy of fine food. Five years after mixing a batch of gourmet soda in her home kitchen, her DRY Soda brand of soft drinks is carried in Whole Foods stores all over the country. Sales of DRY are growing at each store, she said, although her company still makes most of its sales (more than 35 percent) in Washington.

Investors have helped expand the operation, which is still very much a homegrown enterprise. Her labels and packaging were designed by Turnstyle, a local Seattle firm. DRY’s bottler is in Portland. Her company employs seven people. It is not yet profitable but Klaus hopes it will be in a few years.

If there is such a thing, Klaus is one of the real faces behind state Initiative 1107, which will be on the Nov. 2 ballot. If passed, the initiative would repeal the state sales tax on candy and the temporary sales tax on bottled water; it would roll back a business and occupation tax on processors of certain kinds of canned food; and it would repeal a temporary excise tax on carbonated beverages, the element of the initiative that has attracted the most attention.

These taxes were instituted earlier this year to ease the state’s budget shortfall, and are estimated to be worth more than $200 million in revenue to the state over the next two years, at a time when it is struggling with a huge deficit.

Supporters of I-1107 consider the taxes poorly defined and characterize them as a precedent for a grocery tax, even though food-related taxes are a very small part of this initiative (the tax in question is less than half of 1 percent) and something that consumers will never see (only the food processors will pay it). Indeed the vast majority of funds (about $14 million) donated to the campaign to pass the initiative have come from the American Beverage Association, a national lobbying group that represents the interests of the soft drink industry. By comparison, the campaign to defeat the proposal received far less than $1 million in donations.

Opponents of I-1107 cast the fight as one between ordinary people and the soda giants like Coke and Pepsi, which have an interest in keeping soda taxes from spreading to other states (as of last year, 33 states had taxes on soda). Soda is a small-margin, high-volume business. Profits per can amount to pennies, making it necessary to sell millions of cans, which the soda industry does.

While the current state tax on bottled water and candy are sales taxes paid by the consumer, the taxes on soda are an excise tax paid by the distributors at the first point of sale. Distributors generally pass along the tax (which averages 2 cents per 12-ounce serving) to the beverage maker.

The rationale for taxes like those on soda, candy, cigarettes, and alcohol, is that they are at best luxuries, and at worst, sins, and therefore should be taxed. Soda, in particular, has been linked to rising levels of obesity, diabetes and heart disease; taxation would presumably curb its use. But the state tax makes no exceptions for sodas that attempt to strike a healthier balance like DRY, which uses small amounts of cane sugar in its drinks. Its sodas are only faintly sweet and contain about 50 calories per 12-ounce serving.

So far, newspaper editorials have come out mostly against the initiative, sympathizing with the state’s financial crisis and pointing out the deep-pocketed interests of the (mostly) out-of-state soda industry, which helped defeat a similar measure in New York.

I’m all for using taxes as long as the taxes are being used intelligently. I’d certainly like to see it fine-tuned. — Sharelle Klaus

While she supports I-1107, Klaus sounded resigned to the inevitability of these taxes in her state and the financial necessity that drives them, but feels they have been arbitrarily applied when it comes to her company. Just as the taxes make no distinction between high-sugar and low-sugar sodas, it makes no distinction between national conglomerates like Coca-Cola and small, local companies like DRY.

“It’s a hard question,” she said. “This is a challenging time, I absolutely appreciate that, and I know we need to do our fair share, believe me. But it feels like we’re doing more than our fair share because this is hitting us a lot harder. But then, life isn’t fair ... I’m all for using taxes as long as the taxes are being used intelligently. I’d certainly like to see it fine-tuned.

“It has a big impact on our company because the majority of our sales are here in Northwest. That causes us to rethink where we ship our products, and whether we want to do more business here in Washington.”

It is difficult to argue that DRY Soda, a conscientiously and locally produced beverage, or a can of Coke for that matter, are any more of a vice than a box of Oreo cookies or a bottle of apple juice, which are not taxed. Research has indicated that fruit juices are not appreciably healthier than canned soda. Both contain plenty of sugar and empty calories.

Klaus first came up with the idea for DRY in December 2004, going to a food show the next month to make sure no one else had the same idea. She immediately went to flavor houses to gather ingredients and went to work in her kitchen, trying out thousands of formulas to come up with four flavors: lavender, kumquat, lemongrass, and rhubarb. (Flavors now include vanilla, cucumber, blood orange, and juniper berry.) She spent about $150,000 on start-up costs, a relative bargain due to “a lot of horse-trading” on her part.

By August of 2005, she had produced her first batch, more than 500 cases (24 bottles per case) of each flavor. At first she sold it to local restaurants Cascadia and Crush, then to the QFC grocery chain, before breaking into the lineup at Whole Foods, which has carried DRY for four years. When DRY first appeared on shelves, it sold for $6.99 a four-pack. The recession forced prices down to $5.99. DRY is sold only in glass bottles. For environmental reasons, Klaus said, her company does not use less expensive plastic bottles, although it is considering cans as a cost-reducing alternative.

“We’re already priced at the top of what consumers will pay,” Klaus said. “We arrived at that price very thoughtfully after a lot of studying. We cut our margin significantly. It wasn’t that way before the economy tanked, but we all had to bring our pricing down. We certainly aren’t going back up again. And we don’t want to go up. We want more people to buy it because we believe DRY is better for you.”

Klaus was among those invited to Olympia last spring to attend a hearing before Gov. Christine Gregoire about the sugar tax. To her disappointment, Klaus discovered that Gov. Gregoire had never heard of DRY Soda —apparently the governor is “a huge Diet Coke fan,” Klaus said.

Also in attendance was the soda industry lobby, Klaus’ powerful competition. The irony was not lost on her. In Olympia, Coke and Pepsi were her allies, but at home, big-brand soda is considered the arch enemy.

For Halloween, her daughter asked to dress up as a can of Coke “just to press my buttons,” said Klaus, who vetoed the costume.

“Only if there’s a big circle and a line through it,” she told her daughter.

Her four children, who are ages 6 through 13, grew up with DRY and love to drink it, Klaus said. But even in her house, super-sweet soda has its place.

“If they’re sick, they want ginger ale,” Klaus said. “For them, a treat is getting regular soda. I will admit that.”


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About the Authors & Contributors

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Hugo Kugiya

A former national correspondent for The Associated Press and Newsday, freelance writer Hugo Kugiya has written about the Northwest for the Puget Sound Business Journal, The Seattle Times, the Los Angeles Times, and The New York Times. His book, 58 Degrees North, about the sinking of the Arctic Rose fishing vessel, was a finalist for the 2006 Washington State Book Award. You can reach him at hugo.kugiya@gmail.com.