International Franchising

INTERNATIONAL FRANCHISING STRATEGY

– An offensive and defensive strategic way to build foreign markets and reduce home country risks
© 1985-2010, Kevin B. Murphy, B.S., M.B.A., J.D. – all rights reserved

International franchising is a strategic way to reduce dependence on domestic demand and build new, future franchise profit centers. Economic factors affecting franchising has driven more than 400 U.S. franchise companies into international markets. The players include more than just fast-food. Here are just a few examples. 7-Eleven has more than 25,000 international locations, McDonalds over 11,000, KFC more than 6,000. Curves, a fitness for women exercise studio, is an example of a non-food franchise that has followed suit with more than 2,000 international locations. Some effort is required to tweak the business model for the target foreign countries, research local franchise laws and regulations, protect intellectual property rights and develop a master franchise paradigm. But the upside of these efforts is so vast it more than justifies the investment of time and money.

It’s critical to realize international franchise expansion takes more than just a master franchise agreement. Having connections within target country, including people, who know other, high-caliber people, is critical. An international franchise partner can build your brand. But an inappropriate partner can just as easily wreck the brand, usually in a very short time. That’s why our firm has taken time and care in developing international relationships.

Even though the FDD is a U.S. legal requirement, investors in international franchise transactions insist on one, even though their country may not “technically” require an FDD. So, a company’s FDD must be reviewed with an international focus and include a master franchise agreement.

Expansion into foreign markets via international franchising can happen quickly. Burger King opened 12 locations in China since 2005, but launched hundreds more by 2008 under a new franchising plan that includes quickly exporting new concepts to foreign markets. In tune with its HAVE IT YOUR WAY brand promise, Burger King opened its first WHOPPER Bar in Spring 2009 at Universal CityWalk in Orlando, Florida. The Bar allows guests to customize their WHOPPER with innovative toppings and unique sauces. Just months later, the first WHOPPER Bar restaurant opened in Singapore in October, 2009.

The Market in China
McDonald’s operates about 900 sites in China, while Yum! Brands has more than 2,000 KFC’s there – probably because The Colonel looks like a twin brother of Ho Chi Minh. In Vietnam, locals don’t even call the chicken chain KFC, but refer to it as Ho Chi Minh.

Faced with falling domestic U.S. sales, Yum! Brands is mounting an aggressive expansion drive in China to make the country its biggest source of profit within a decade. Yum’s KFC was the first foreign fast food company to move into China, opening the first KFC outlet there in 1987. Now, Yum is China’s biggest restaurant chain, with some $2 billion in annual sales and over 2,500 KFC and Pizza Hut stores. China will deliver about a third of Yum’s operating profit in 2009. In all, 60% of Yum profits now come from international markets. McDonalds which operates about 900 outlets, is Yum’s nearest rival in China’s $28 billion fast food market.

Yum! Brands is now counting on two things: international expansion – and its Taco Bell brand – to ante up 90 percent of all profits by 2012. Yum sees more opportunities to open more stores in India and hopes to position KFC and Taco Bell as youthful, hip brands in a nation of young consumers. It plans about 1,000 stores for India by 2015, up from 230 in 2009. Sales growth in China, Yum’s most crucial market, has slowed from a breakneck speed, with same-store sales there down 3 percent in its last quarter, 2009. While economic growth is coming back, consumers have not raised discretionary spending.

Taco Bell, the brand contributing the bulk of Yum’s U.S. profits, is being unleashed as a major player in international development, joining Pizza Hut and KFC – the triad of Yum global brands. At the end of 2008, only 250 of 5,600 Taco Bells were outside the United States. Under Yum’s direction, this percentage will change dramatically over the next few years with efforts already underway in India.

Taco Bell Enters India
Taco Bell stormed the vegetarian nation of India in April, 2010, opening its first outlet in Bangalore. Each day, some 2,000 Indians visit the new restaurant, strategically located inside a shopping mall. Indians haven’t shown this much enthusiasm for American fast food since McDonald’s came to New Delhi and Mumbai more than a decade ago. The next two Indian Taco Bell outlets are slated to open later in 2010, also in Bangalore. The Taco Bell plan is to grow to 100 outlets in India by 2015. Following the lead of McDonald’s, beef is off the menu in this Hindu-dominated, cow-worshipping country. Taco Bell offers chicken instead and took two years perfecting its three Vs for India — value, vegetarian and variety.

Since January 2008, Subway has opened 1,432 locations in foreign markets, 202 more than in the U.S. In the past five years the chain has nearly doubled its international presence to 8,817 outlets.

International Franchising Advantages in a Tough Economy

A big advantage in looking overseas during tough economic times is the foreign master franchise owners. They are able to bankroll the entire investment themselves. That’s a big difference from selling franchises in the U.S., where most prospective franchise owners need bank loans from lenders with overly tight lending standards. Master franchise owners in foreign countries pay significant, up front fees of $100,000 to $1 million or more to acquire a territory or country where they operate as a mini-franchise company, selling franchises, training owners, overseeing those units and collecting royalties. The master franchise owner, a native of the country, is more knowledgeable about local laws, customs and consumer needs. They are able to thus avoid the pitfalls and problems that international franchising might bring without their assistance.

The Russians are coming, the Russians are coming . . . to McDonalds

The announcement by McDonalds in 2007 to sell off 21% of its 7,000 company-owned McDonalds restaurants in the U.S. as turnkey franchises follows a strategic plan to reduce its restaurant ownership so McDonalds can funnel more resources into fast-growing international markets, like China, Russia and India. McDonalds CFO said on a per-restaurant basis, Russia is the company’s most profitable market. In a country where more than two thirds of the population have not yet made a habit of eating out, McDonalds sees big opportunities. It plans at least 40 new outlets in 2010, compared to 33 in 2009 and 21 in 2008. Although Russian consumer spending is down due to the economic crisis, McDonald’s continues to shine. With a 70 percent share of Russia’s quick-service restaurant market and relatively low prices, the Mighty Mac has proved more resilient.

The King Finally Spies Russia . . . but 20-years after McDonalds

Burger King, finally warming up to post-Cold War market realities, announced in mid-November, 2009 it was under negotiations with different parties to open the first Burger King in Russia. In January, 2010 the first Russian Burger King opened in Moscow. This puts Burger King twenty years behind The Mighty Mac in Russia. McDonalds opened its its first McDonalds restaurant there in 1990. As of 2009, McDonalds has about 300 restaurants operating in Russia and saw Russian sales rise 20 percent in 2008. Why is the King two decades behind McDonalds getting into Russia? Good question and just another reason the Mighty Mac is on top of Burger Mountain. Subway also beat Burger King to the punch in international franchising. The sandwich chain with 78 outlets in Russia as of 2009, has plans to expand its Russian network to 1,000 outlets by 2015.

Wendy’s/Arby’s also Spies Russia . . . but also 20-years late

In August, 2010 Wendy’s/Arby’s Group announced plans to open 180 dual-branded restaurants in Russia over the next 10 years. Dual-branding means customers can order burgers, roast beef sandwiches and other food items from both Wendy’s and Arby’s menus. This move represents the latest American fast food chain looking for growth in the emerging Russian market. But compared to head-start rivals like McDonald’s and KFC, Wendy’s/Arby’s is a very late player in the international game. Only about 300 of its 10,000 restaurants are located outside North America.

Adapting To Local Customs: a Strategic Challenge

Adapting to local customs is always a problem for any international franchise effort. For example, Colonel Sanders secret recipe of herbs and spices isn’t a draw factor for many Chinese customers. For health reasons, they shy away from fried chicken and prefer to eat the fish, porridge and egg tarts featured on the KFC menus. David Novak, chief executive officer of Yum! Brands, has forecast 20,000 restaurants in China. “We’re in the first inning of a nine-inning ball game in China,” he told investors in February, 2008. Yum will test 24-hour KFC’s and expand home delivery services to target the huge nocturnal citizens of China’s crowded cities.

McDonalds uses a think global, act local international strategy for each target country. In Japan, to make its name easier to say, McDonalds was changed to Maku-Donaldo. Adding a twist to its products to fit local dining culture, in Hong Kong McDonalds launched rice burgers. While popular there, the rice burgers do not have the same appeal among Mainland Chinese, demonstrating just how truly local tastes in a region are. In Saudia Arabia, McDonalds does not display Ronald McDonald, respecting the Islamic prohibition against idols. In India, the chain serves Veggie McNuggets; also, the Big Mac was renamed Maharaja Mac and is made from lamb instead of beef.

Seeing The Writing On The Wall

Large franchise icons saw the writing on the international franchise wall long ago and moved aggressively to create foreign revenue streams and eliminate dependence on U.S. sales. Coca-Cola now gets 70% of its sales and 80% of profits from international markets. McDonalds and KFC are moving in similar directions. Dairy Queen celebrated opening its 200th store in China in 2009 and is planning 500 more within five years. The ice cream chain, with more than 5,600 locations worldwide, entered China in 1991, and projects that by 2010 China will be its largest market outside of North America.

Even Small Chains Can Benefit

Even smaller franchise chains can benefit from international franchise expansion. Howards Storage World, a company that specializes in storage solutions to organize every room in a home, began franchising in 1998. In 2004, when it had grown to be a franchise chain of 35 outlets, it went international and sold its first master franchise in Singapore. In 2005 – 2007, Howards sold master franchises in New Zealand, Spain, the Middle East, Ireland and the Philippines. By the end of 2007, Howards International had 14 stores under its wing, accounting for 20% of sales.

Every brand, like every person, is from somewhere. And the appetite for American franchises is a worldwide cultural phenomenon. As one business person in Singapore observed “Bring just about any U.S. franchise here and it will do well. We Singaporeans are fascinated with American concepts.”