CASE ANALYSIS:

Kentucky Fried Chicken and the Global Fast-Food

BUS 478 D1.03 Professor Wosk By: Frank CHU 20005-6416 March 3, 2003

Individual Case Kentucky Fried Chicken

History and Introduction Kentucky Fried Chicken Corporation (KFC) is the worlds largest chicken restaurant chain. It operates more than 10,200 restaurants worldwide in more than 79 countries. After PepsiCo brought up KFC in 1986, KFC carried out significant changes in different areas including the new focus on product quality, the new product offerings and differentiation, and the control system. Recently, KFC is inevitably facing a lot of business problems such as losing market shares and dealing uncertainties with the international markets. This report will focus on the recent matters that KFC have and will organize into four sections. First it will analyze KFCs external environments, then the internal. Later, it will discuss the companys global environments and strategies. At the end, it will provide recommendations for the identified problems. External Analysis The external analysis will focus on Porters five forces. Risk of entry by potential competitors The threat of entry barrier of the chicken fast-food chain industry is moderate. On one side, the entry barrier is low because the entry capital investment is low. For example, Chick-fil-A enters the industry by opening many small units in the food courts of shopping malls. Instead of investing millions in building restaurant houses, those units cost only US$2000-US$4000 per month, which is a less costly strategy to enter the industry. On the other side, the barrier is high because the industry is already filled with few big players such as KFC and Boston Market, which account 56% and 12.8% of the total number of restaurants in the chicken fast-food market. Their large sizes enable them to achieve the absolute cost advantages and the economic of scale by sharing the overhead cost, material costs, and technology know-how. As a result, the long run costs for new entrants is high compare to incumbents.

Rivalry among established companies and Substitute The competitive environment for the chicken fast-food chain industry in North America is moderate because there are not many chicken chains. Nonetheless, the fast-food market contains high availability of substitute products such as sandwich chains, pizza chains, family restaurants, and buffet chains. Broadening the industry definition, threat of rivalry is extremely high. This fast-food chain industry can be categorized by using the strategic group model. Each segment (or chain) is a separated strategic group. The mobility barrier protects each chain from head-on competition. However, competition across strategic group exists: Wendys has introduced chicken pita sandwiches and Hardees has successfully introduced fried chicken. High competition indicates that the US market is saturated and expansion becomes very difficult. This is also one of the problems that KFC is encountering. Bargaining power of buyers and suppliers The threat of buyer bargaining power is low due to the fact that the fast-food consumers are small and large in number. Although it is possible for customers/companies to purchase large quantity of fast-food, no single one of them is expected to contribute more than 1% of the sales of the fast-food chain. Similarly, the threat of supplier is moderate-to-low. The major suppliers of the fast-food industry are the food/raw material suppliers. They impose less threat because their positions can be backwardly vertical integrated. For example, many fast-food chains operate their own farms and develop their own technology. Those suppliers can be power if they have unique resources or capabilities to provide superior quality at low cost. Internal Analysis This section will discuss the KFCs strengths and weaknesses of the generic building blocks of the competitive advantage which would lead to differentiation and low cost. Furthermore, it will discuss the resources and capabilities of KFC. Innovation and Quality

One of the most outstanding innovations in KFC is the secret recipe in cooking chickens that Sander invented. This secret recipe, also known as Original Recipe, has brought KFC to the road of success since 1952. Since then, KFC has somewhat emphasized the quality of its products and services. The strength in innovation and quality assists KFC to be the leader in the chicken chain market. Efficiency and Customer Responsiveness Compare to Boston Market (BM), the second largest chicken restaurant chain in U.S., KFC is exceptionally inefficient. Here, the efficiency is defined as the total value each restaurant unit contributes. In 1997 an average Boston Market unit generates $1.027 Million sales, which is 31.5% more than KFCs ($0.781M). This figure implies that BM creates more value to customers. BMs superior competitive advantage is mainly due to its capability in marketing its product. For some time now, consumers are increasingly conscious with respect to health issues and the ingredients that are used to season the chicken. BM focuses on this opportunity and produces the roasted home-style chickens which are more healthy. Although KFC is comparatively slow in responding the change, it finally introduces rotisserie chicken to capture the health-conscious customers. However, it later learns that the customer bases of KFC and BM are considerably very different. In some extent, KFCs inertia has set the barrier to imitation, limiting KFC to combat BM. Overall, KFC is moderately weak in efficiency and in customer responsiveness. Resources and Capabilities KFC has adequate human resources but lacks capabilities. Its mother company, PepsiCo, makes extremely wrong decision in its corporate level strategy. It centralizes and tightens the control over existing KFC managers. It causes the drop of the employee morale. Moreover, PepsiCo also limits the rights and powers of the franchisees right and power and intents to compete and acquire the franchisees units. The franchise disputes had lasted for 7 years until 1996. The

consequence of the above strategy is drastic. Turnover tends to be high. Employee loyalty as well as their performance drops. This drives down KFCs market shares, limits its efficiency, and reduces its growth. Mexican Environments and Global Strategies KFC operates 50% of its restaurants outside US, mainly in Japan, China, and Mexico. KFC emphasizes on building company owned restaurants. The section will only discuss on KFCs business in Mexican environment because KFC encounters problems and uncertainties here. Mexican Business Environment Mexico has a long history of close economy until 1988. When De Gortari, Mexico President, ambitiously strengthens free market, his policies attract many US businesses because of the neighborhood and low transportation cost. In addition, Mexico has a lower labour wage and capital cost. Many US companies realize these Mexican location economies and begin trade. As a result, total value of import and export between US and Mexico rises from US$82 billion in 1992 to US$149 billion in 1996. Anyway, the investment in Mexico is moderately risky because of the fairly unstable government, Mexican labour unrest, and anti-Americanism culture. Mexican Economy Economic stability is an important factor in determining foreign investment. In term of this, Mexico is poor in manipulating and controlling its economy. The crisis of Peso exchange and hyperinflation threaten the investors. The devaluation of Peso reduces the profits of the foreign investors in term of US dollar; and the hyperinflation reduces the purchasing power of Peso, and makes the market environment unstable. The cause of these events contributes to the rapid change to open market. Since the Mexican government just opens the market, it lacks the skills and experiences to manipulate and control market movements, and the existing Mexican regulations and controls are still immature and inadequate. Those economic events give Mexico

a valuable lesson. In the long run, Mexican economic is expected to be mature after passing through a series of learning and experience effects. KFCs Global strategy in accessing Mexico Strategic Choice As discussed in the competitive environment, the overcapacity of US causes KFC hardly to expand. To solve this problem, KFC invests and expands to Mexico, making Mexico to be KFCs strongest market in Latin America. Currently KFC implements international strategy, in which KFC creates differentiated products and R&D at US and transfers them to Mexico. This strategy allows fixed costs associated with coordinating, purchasing, financing, and advertising to be spread over a large number of restaurants in Mexico to achieve economic of scale. This strategy is appropriately used in Mexico because standardized processes and controls increase Mexican labour productivity and efficiency. However, the downside of this strategy is lack of local responsiveness, which is a potential problem. Entry Mode to Mexico By the end of 1997, KFC operates 128 company owned restaurants and 29 franchises in Mexico. The percentage of corporate owned restaurant (81.5%) is very high compared to 22% of all KFC restaurants outside US. It is clear that KFC emphasizes in wholly owned subsidiaries entry mode. This entry mode enhances KFCs global strategic coordination and its ability to realize location and experience curve economies. However, there are three disadvantages in using wholly owned subsidiaries entry mode. First, KFC carries most of the costs and risks associated with dealing business with Mexico. As the Mexico environment is unstable, these costs are relatively high, which is explained in the Mexico economy section. Second, this entry mode limits KFC to enter the market because of anti-Americanism. Mexican may not be willing to spend income in KFC as they know that their spending in KFC will eventually flow out of Mexico to US. Third, there is the possibility that radical anti-American groups terrorize KFC restaurants just like what happened to McDonalds in 1994. So the benefits of this entry mode are offset with potential threats.

Recommendation In order to solve the problem of high competition, the best solution is to expand into international market as explained in the above section. KFC may also want to differentiate its products and compete at non-price strategies, such as service and variety of menu. In this way, KFC escapes from potential price wars. On the other hand, KFC may want to reduce its cost so that it will survive in case of price wars. For the second problem related to the reduction in market share and efficiency, the root cause comes mainly from the PepsiCos centralization strategy, which also leads to high turnover and low employee morale. The suggestion for PepsiCo is to gradually decentralize KFC to semiautonomy. This strategy benefits PepsiCo in three ways. First, as the operational decisions are delegated to KFCs existing managers, PepsiCo can spend more time on corporate strategic decisions. PepsiCo also can put more resources on its core soft drink business. Second, decentralization increases the flexibility of KFCs managers so that they become easier to cope with the diversity of the local situations and response to market changes. Third, it motivates managers and increases their productivity, effectiveness, and efficiency. To avoid the potential threats associated with Mexico business, KFC is recommended to put more weight in franchising strategy combines with multidomestic strategy, instead of only 18.5%. These strategies increase local responsiveness and KFC can change its menu according to Mexican taste. For example, the Mexican style foods are a mix of chopped meats, so KFC may want to introduce fried chopped chicken. Additionally, the high costs and risks associated with business in Mexico can be shared. However, franchises strategy must build on the trust of the Mexican managers. As result, a wise strategy for KFC is to balance the pros and cons, and examine each strategy depending on the location and situation of the new restaurant.