NickSalFranchiseDraft
Nick Salvatoriello November, 2008
“GLOBAL Restaurant Franchises in China – Successes and Failures” Intro and explaination of purpose:
What is a franchise? Franchise model? China? “What is GLOBAL FRANCHISING?
Dantos Case Study: Two and a half years ago, Phidias Dantos, owner of Northern Bakers Inc. returned home from his last trip for his China venture. On July 4th 2006, his flight arrived at tiny Lebanon Airport in NH from Shainghai. 18 months after his venture started, this restauranteur of over 50 years came back unsuccessful after attempting to bring his franchise model to the streets of Shainghai. How could he have gone wrong? How could he have gone right? His lessons are the lessons of all major franchise companies seeking to go into the China market. They are tales about the cultural challenges of the business climate there and stories about the political system so different from our own. In the end, Phidias Dantos’ experience is a warning to entrepreneurs of the future that even the most veteran business man needs to approach China with great causion but most of all, respect. Louis and Ron Shake purchase St. Luois Bread Company as they expand their company to over 11001300 total franchises and corporate owned (went international into Thailand). Ronald Shake from Harvard Business school and Louis go into business. (Ranolad is now HEAD OF PANERA BREAD!” Ron was an excellent business man. “If you dropped a quarter he’d break your finger off.” "Based on the successes and failures of entrepreneurs and corporations in recent years, what is the best strategy for opening a chain of restaurant franchises in China today?" My research is far from complete, but three major themes emerge as critical to success:
1.) Guanxi 2.) Location 3.) Think local, act global: The power of joint ventures and local partnerships in China before global business strategies.
Background: Phidias and his wife Alice lived just up the street from me while I grew up in my hometown of Hanover, NH. Phid is an oldschool entrepreneur who earned his MBA from the school of hard knocks. He’s gone from nothing to being a millionaire and back again. To him it seems, it’s all part of the package of being an entrepreneur. Was with Oh Bon Pan for almost 18 years (21 total). Had been a franchisee of Au Bon Pan finanaced in part by Fred Salcvatoriello and a few other close friends. His Company was called Northern Bakers Inc, Franchisee of Au Bon Pain. Because of his experience in the food service industry for over 55 years, he headed it up. Everything con hotels, to hotels, convenience stores working with the public in hands on retail business transation. Ran and owned restaurants, convenience stores and franchise operation with Au Bon. He was also in land development, one of the key developers of 6,00 acre homes development. Ronald Shake from Harvard Business school and Louis go into business. (Ranolad is now HEAD OF PANERA BREAD!” Ron was an excellent business man. “If you dropped a quarter he’d break your finger off.” What is a “global franchise?” When people think about the franchising concept, McDonalds usually comes up first as a prime example. Today, McDonalds franchise network is the world’s leading food service retailer, with more than 30,000 franchise restaurants serving 52 million people in more than 100 countries. Of those stores, more than 70 percent are owned by independent operator franchiseesi. The question that naturally follows is, what factors contribute to making franchise models such a success? Truly, McDonalds is not just a success in America, it is the leading global franchise chain. They were no overnight success, however. The first McDonalds franchise opened outside the US in British Columbia, Canada in 1967. Since then, McDonalds has spread all over the world, with its largest franchise store featuring more than 700 seats opening in Beijing, China in 1992.
One essential factor that contributes to franchise success is a consistent commitment to standards. McDonalds franchise restaurants became wellknown for the inspired and defining vision created by Kroc for his restaurant business. “Quality, Service, Cleanliness and Value” was the company’s motto, and customers knew that no matter where they travelled, they could rely on those qualities at every McDonalds they visitedii.
How the franchise structure works: You need a PROVEN concept “A proven winner” says Phid, that has shown success in around 2 10 stores initially. You need to prepare the documentation that must pass SEC stringencies IF you want to sell stock. You need an approved prospectus. (very difficult, controlled, and precise). Phi’s was an SCorporation (a private thing financed by friends rather than strangers) You must compile a franchise agreement. (Phid considered it almost as needy of precision as the prospectus). Disclaimers need to be there.For those who want to become part of this successful concept. You have a model. Controlled Profit (what the manager is responsible for, what HE can includence and control) Then add in what Phid managers (Mall Rent ect). Franchise provides: Format (standards). This could be a requirement that you buy from a certain vendor ect). Quality, service and cleanliness must be standard so that all stores will contribute to common image. Franchise 57% of sales (either gross, net, depending). Franchisor has a responsibility to keep developing new products, systems, and procedures for their stories. Franchisee has the resonpibiulity to keep it clean and tight for the benefit of everyone. You buy a territory and so many stores and you have to sign an agreement on how many stores you’re going to put in. You must expand and open new stories in the area so the franchise can get more frees. Franchisee can choose the sites. Franchisors want multiunit owners, “Not mapa” says Phid. The global franchise provides a special challenge are business owners confront the challenges of opporating their franchises across multiple markets represenint often a range of different ethnicities, income levels, and cultural barriers. Understanding the culture in which the global franchise is to opporate in appears to be paramount. Dennis Cambell, an author of a HBS case study on the organizational design and control challenges of opporating francheses across
multiple markets. “The basic idea is to think about how the complexity of the customerfacing operating environment affects organization design choices such as control systems, incentives, performance measurement, and ownership structures,” Cambell wrote in the HBS case. “Even firms that have very standardized business models in terms of products, labor, and mechandising will face the challenge of serving customers with different preferences and behaviors when that model is stretched across multiple marketsiii.” 1.) LOCATION: Benefits and Risks He bought 4 poorly performing stores in Au Bon Pain that operated in Shopping malls, put together a group of close friends to form Northern Bakers Inc so their was no further liabilities to any of them personally. Louis and Ron Shake purchase St. Luois Bread Company as they expand their company to over 11001300 total franchises and corporate owned (went international into Thailand). Difference was Phid’s fanchise model (malls) didn’t work in Malls. Transportation centers, college, college and universities. Malls were terrible. Was totally “raped” by shopping malls. The rent structure was not right for the business model of the franchise he owned,
How Malls (retaling works) 10,000 sq feet, Phid Paid 140,000 a year. $140 PER SQUARE FOOT A YEAR. CAM (Common Area Rent) what the stores pay for keeping the mall clean. This can be moiré than the rent. Rent can start at 7% but add in all the “ball breakers” and it’s 1618%. STORES CAN ABSORB A max of 12%. There’s a base plus rent (about 10%) There are break point so that if you do more profit than anticipated (about 6%). Ron started Panera and they came up with a concept that worked very well, any place (particularly in the open areas like where Norhtern Bakers was operating.) 267 stores of Penera’s in Phid’s territory doing over 60 million. Where as your 10 stores most ever did was around 7 million and lost money (23 million in debt). Only super store was in Dartmouth medical center. “Which is good if you had 10 stores like it” says Phid. All the rest lost due to the mall model.
He went to China to find a new frontier. This was China. At one point, Phid was the chair of the Vermont State Chamber of Commerce. It’s president went to China to represent trade between China and Vermont. At the same time he was talking to the Green Mountain Coffee. Green Mountain would give Phid and a Taiwanee business man the exclusive rights to Mainland China and Hong Kong. Phid brought the experience and Nelson Lo (the Taiwanese man would bring
language and business experience. They formed Green Mountain Coffee, Limited, a corporation with mostly Taiwanese shareholders (DOES PHID HAVE COPIES OF THESE DOCUMENTS?). They’d get the exclusive right to market their coffee. He noticed a lot of different things were LOST IN TRANSLATION. He noticed again and again, he was told “yes” by people when they really meant no. “Is nelson coming back from Shainghai?” His secretary, “yes”. Why isn’t he here? “He’s not coming.” Um…….
Coffee and China: A Starbucks on every corner: “When I got there I realized only 2% of the population drank coffee, but 2% of a billion should be a lot.” No other company was better positioned to tap into this market than the behemouth international coffe chain, Starbucks. Its multitude of stores that have spread across the US and now the world have made a cup of coffee into a global phenomenon. In the US alone it is estimated that an average of 40 million people consume one of their coffees every weekiv. This statistic is an impressive example of Starbucks Corporation’s ability to capture a huge segment the coffee industry market within the US and internationally. With their international expansion in recent years, more markets in Europe, Africa and Asia are discovering and cozying up to the Starbucks model. This is aknowleged in the company’s Fiscal 2007 Year in Review where they have dubbed themselves “The World’s Coffee House”: “With more than 15,000 locations around the globe, Starbucks is acknowledged as the world’s coffeehouse. Our familiar green logo‚a symbol of one of the world’s most recognized and respected brands‚is a welcoming beacon familiar to millions of people in 43 countries. In fiscal 2007, FORTUNE magazine rated Starbucks the second most admired company in the U.S., while brandchannel.com rated Starbucks among the world’s top five most recognized brandsv.” Although its stores and brand are as familiar to us as McDonalds, Starbucks is actually not a coffee franchise. It is actually a chain of stores owned and managed by the Starbucks Corporate management team, not by independent franchisees like Phidias Dantos and Northern Bakers Inc. That’s not to say Starbucks avoids strategic partnerships and alliances to open locations in the most prime markets. According to Schultz, the company’s famous chairman and CEO, “Starbucks will only enter into licensing arrangements with companies when access to prime real estate which would otherwise be unavailable such as airports, national grocery chains, college and university campuses, hospitals, major food service corporationsvi.” This quote is an example of the importance of key partnerships and prime locations in the successful growth of franchisors
who seek to emulate the success of the Seattlebased coffee company. For, while they may not be a coffee franchise, Starbucks and their ability to build their brand and retail operations lends itself very well to the principles of franchising. Their success and struggles to take their “Starbucks Experience” into countries such as China and succeed should inspire all potential franchisors and franchisees that with the right ingredients and some elbow grease, American restauranteurs can come to China, sell coffee, and succeed.
As mentioned before, Starbucks underlying business principles a great product, effective marketing and PR, dynamic management and determination can be applied to a successful working principle for any successful coffee franchise.
During his stay in Shainhai, Phidias Dantos studied Starbucks very carefully and hired those who had worked for starbucks. They had 25 stores at this time (20042005) in downtown shainghai. Seeking to understand his competitor, Phid went to Starbucks stores around the city, seeing who’s there, what they’re changing, what they’re paying their employees. His experience meeting and speaking with patrons at the coffee stores shows just how admired American brands our culture can be to the Chinese public. “Girls working at department stores here earned about $25 dollars a week for a 40hour week. Every Friday they’d meet at Starbucks to pay $3 (10% of their pay) more than anything else because this was the place to be seen,” Phidias told me in amazement, “Frankly they’d rather have a cup of tea that come free at any restaurants, but they’d rather drink a late because they want to be very Westernized.” The Chinese want to go for the classiest most western stuff they can afford. He recalled their love of westerners. “They’d be playing Christmas Carols in the malls in July.” #3 Occupancy costs in extremely high, but labor costs were extremely low. “Benefits and Labor were 27% in US, Occupancy was 10%) This was flipped in China in the key areas he wanted to open (the 5th Avenue and Lexington Aves of Shainghai. #5 Occupancy costs are extremely high if you’re going to go where you want to be successful. Nan Jing Lu, Wai Hai Lu. If you’re going to introduce a new brand, that’s where you have to be because that’s where all the high end brands are there, Gucci, ect. You might run negative cash flow (50% occupancy) but that’s your advertising. They’ll see Green Mountain coffee nestled into the big brand names so they’ll recognize it in Su Jo. Once they see the name on “5th Avenue” it’s better than seeing it in Time Magazine.
It seems that Phid understood intitially some things that Starbucks has forgotten recently as their breakneak pace of growth has melted away with decreased earnings: sometimes in marketing, less is more. This view was espoused by the authors of a HBS Working Knowledge Article titled: Starbucks’ Lessons for Premium Brands. The paper points out that growing a global chain of stores and launching a vast array of products takes management’s focus off their main responsibility of improving same store sales yearonyear. “This is the heavy lifting of retailing, where a local store manager has to earn brand loyalty and increase purchase frequency in his or her neighborhood one customer at a timevii.” The authors warn that the exclusiveness of a brand requires controlled growth and premium pricing comes from a limited distribution model. Public companies like Starbucks is constantly challenged to grow and now runs the risk of having its brand experience being devalued in the face of increased quality and competition from low priced coffee offerings like Dunkin Donuts and McDonald’s. The fact that his budding coffee business, Green Mountain Company, Ltd was a privately run business controlled by private investors appeared to offer Phidias a chance to build budding venture in a new exclusive brand in Shainghai. But as he soon learned, breaking into the China market requires that the old business adage, “Think Global, Act Local” needed to be turned on its head; 2.) Partnerships: Act Local, think Global:
The current leader is Mr. Doughnut (Phid visited them and saw they were doing very good). Phidias continued to visit various stores affiliated with his future business throughout his 18 months in booming Shanghai. He noticed KFC was very big. “The chinese like chicken, they’re afraid of beef. They’ll never sell you a steak unless it’s black inside. They won’t take Red.” KFC is bigger than Mc D’s. He noticed a Mc Café that wasn’t doing well. ***Duncan Doughnuts has already attempted to get something going in China almost 8 years ago. They pulled out unsuccessful. Now they’re thinking about going back in. (WHY DID THEY FAIL, HOW DO THEY PLAN TO SUCCEED?) “You walk into a Pizza Hut and it’s just like walkingt into the ritz carlton or four seasons. Marble floors and finely dressed waitnrtesses with a bathroom attendant in Pizza Hut. Phid lived for Pizza Hut and KFC. If you’re invited to a party, you better go. It’s extremely important for guangji Everybody loves Kareoke. All the big deals of every big corporation. It’s important that they plan a big dinner and go out to Kareoke (like the chairman of Dow Chemical and you’d have to go!) Private rooms in restaurants were always standard with two wait staff for a table of 10. (Phid and his Wife sang!) The Kareoke went till two.
Here’s a tip for American Business men: They know you’re a Christian and that you want to Celebrate Christmas, they proscrainate and stall until it’s December 23rd. They’re sneaky, crafty, says Alice. He recalled a business man going for 15 days and no deal, just going out to Kareoke and club hopping until he was in a proper bargaining position advantageous to the Chinese. Things are interpreted differently. The exclusive rights to Market their coffee in all of mainland China and Hong Kong, so long as they didn’t present themselves as Green Mountain Coffee Company: They formed a corporation: Green Mountain Company, Ltd of Hong Kong. And they were naturally required to sell certain units a year plus growth. They would be an agent to sell the coffee. Mail order, plus shops, and supermarkets. He wanted to put full grown coffee plants into the store. He had blue prints from Panera to copy. Bags of coffee around the store (like a warehouse). Murals of costa Rican Scene. The rest would be a design that drew inspiration from both Starbucks coffee and Panera Bread stores. But it was not to be….. Lessons: 3.) Guanxi: Risks and Benefits
#1 if you wanted to go into Shainghai or any of the major cities, don’t kid yourself. You got to be in with the Communist Party. He couldn’t get sites on key streets in Shainghai (Nang Jing Lu), but Melson stalled him and asked to focus on other things. You have to have a connection to access these competitive area. The party membership goes back generations. Those who were in with Mao, their decendents would do extremely well through the generations. Party patronage is very important. If you didn’t support the party, they wouldn’t rent to top spaces to you. It was NOT a question of rent. #2 Big error was getting a Taiwanese to open in Shainghai. These two parties don’t trust eachother. There are no flights from Shainhai to Tai Pei (you gotta go to Hong Kong)
#6. Everything is Guangshi (relationships). The issue was that Nelson dressed up his capabilities a lot better then he had. His partner didn’t have it and tried to bebenfit his relationships by convincing Phid to bring in his own Taiwanese people. He was discouraged with utilizing the conections that the consulate recommended ect. Taiwanese and Shainghainese did not trust eachother. He had neither. He saw that this man was eventually out to screw him. His wife
came over and wanted to sell the house and stay in the country, but phid saw what was coming and when he told her, she cried. #6 Face is everything. If you want to get a nice table, you’ve got to leave a VERY big tip. A nice coffee table at a party offical’s daughter’s wedding would be insulting, an $18,000 remodeling of the kitchen would be more appropriate. #4 If you want any sortof substantial business, you must be in with the party. The party is making things happen in China right now. “They can move 200 million people” He LOVED the way to government system opporated there. He shows considerable understanding of the US government and the Chinese government. They’ll do anything to move ahead and their government would just ORDER it to happenm, that’s what so impressed him. #7 The communist party’s totalitarian practices have merit in a time when the economy need to be developed and things need to be done.
“Because I got burned and raped and battered and screwed, I learned,” Phid said to me whistfully at the end of our talk, “I earned my MBA many times over in my career as a businessman not the MBA’s like you got at Union or Harvard, but just as good I think.”
You can see the pictures, watch the movies, read the articles about it, but until you FEEL it, your entire body will shiver with electricity, “cause you’re a business man, you can appreciate it.” 5000 sky rises, the buildings lit up in different colors and the energy of the enterprise.” He realized, “I can’t teach these people a thing.” But they could teach him a thing or two.
Conclusion:HOW TO SUCCEED: LESSONS:He noticed some key things: You must go to the American Embassy to get connected to America’s business connections in China. He got connected with the American who was setting up Hooter’s opporations in China.
Bibliography:
i
The Marketing Genius behind McDonalds Franchise Successhttp://www.franchisedirect.com/foodfranchises/themarketinggeniusbehindmcdonaldsfranchises uccess/14/25; Copyright 20032008 Franchise Direct ii
The Marketing Genius behind McDonalds Franchise Successhttp://www.franchisedirect.com/foodfranchises/themarketinggeniusbehindmcdonaldsfranchises uccess/14/25; Copyright 20032008 Franchise Direct iii Hanna, Julia. Making the Decision to Franchise (or not), HBS Working Knowledge, July 28, 2008 iv Starbucked: Background reading for a corporate reorganization, .W. P. Carey Jan.2008 v Starbucks Corporation Fiscal 2007 Year in Review www.starbucks.com/yearinreview/index.html Copyright © 2007 Starbucks Corporation. vi Starbucks Home Website (www.starbucks.com) vii
Quelch, John. Starbucks’ Lessons for Premium Brands. HBS Working Knowledge, July 2008