KFC's Triumph and Turmoil in China

As the first western fast food company to enter china in 1987, KFC has become the MODERN blueprint for /of internationalisation (Knowledge.insead.edu, 2016).

Engaging in a combination of high control methods of market entry, they have since grown to become the country’s most successful fast food company, with 4563 stores and 11.6% of the market share (Euromonitor, 2018). Control, the capacity to impact procedures, strategies and systems (Anderson and Gatignon 1986), will be discussed in relation to these/their/the market entry methods using takeaways from TCA framework adapted from Ronald Coase (1937). It will BE ARGUED THAT control is critical to the successful internationalisation of a firm (Anderson and Gatignon 1986) and KFC’s desire for control led them to employ/ opt for a series of methods that enabled their rapid expansion, quality control and consequently renowned success.

However, it will be DEBATED(FIND OTHER WORD) that operations with a high degree of control result in inflexibility (Holton o1971); this will be framed regarding the threats facing the firm, and the extent to which this inflexibility ultimately led to KFC’s exit from the Chinese market with the creation of YUM China in 2016

To discuss KFC’S entrance in to China, it is beneficial to evaluate the motivating forces behind the expansion and their choice of FDI. The most widely recognized theory for FDI is Dunning’s Eclectic Paradigm (Johns, 2018), which attempts to explain the pattern and MAGNITUDE of international production (Dunning, 1976). Even though it fails to take into account some of the broader market features (Johanson and Matsson 1986) it explores the conditions required by the firm for internationalisation through Foreign Direct Investment.

Dunning (1976) defines three possible sources of advantage to the firm; Ownership, Location and Internalisation. The first involves specific advantages unique to the firm that affords them a “net competitive advantage”(rugman 2010) that suggests why a firm may succeed abroad; KFC benefitted from the intangible asset of a reputation, that is easily transferrable to the proposed subsidiary (Gillies, 2005) , which allowed them to be seen as reputable luxury western product in china, at a time when China was looking to the West for inspiration. Having vast financial capital afforded to them by their parent company YUM! they could exploit the opportunity ahead of their competitors.

Location seeks to explain which market a firm chooses to enter; the size of the Chinese market, with 20% of the words population, and an average GDP growth of 10% (Data.worldbank.org, 2019) suggest KFC were looking to tap into foreign demand (Rugman and Collinson 2012). Together with the relative lack of competition they faced, China certainly held location advantages for KFC.

Finally Internalisation refers to how the company structures its operations; the degree to which they internalize their value chain in the host country. Dunning asserts that it must be more profitable for the firm to internalize than outsource (Dunning, 1988). According to Eithier internalisation is “emerging as the caesar of the triumvirate” (Ethier, 1986: 803 cited in Dunning, 1998) suggesting the degree to which the firm decides to internalize its production is the most influential/vital aspect of th the paradigm. This was ceetainly true for KFC as it dictated their level of embeddedness in China; due to their desire for control they had a fully internalized value chain in China.

Therefore, it is evident that KFC had clear motivations to enter china, however, while they clearly possessed advantages in all three areas, it was their radical approach driven by control that created the blueprint for internationalisation in the fast food industry.

The expansion strategies chosen by firms are determined by the level of control deemed necessary (Anderson and gatignon 1986), by the market climate and the resources held by the firm (

Reid 1983 cited in Whitelock 2002). The degree of control exercised in the OPERATIONS and entrance strategies is fundamental to the success of the foreign subsidiary (Davidson 1982) and is the “single most important determinant of both risk and return” (Anderson and Gatignon 1986, p3). The nature of the Chinese market at the time, having only been opened up recently due to the New Economic Zones, posed a risk to foreign investors due to the uncertainty of the economic climate. KFC, however, addressed this risk and uncertainty in the market by employing a high degree of control in their entrance strategy and operations; it was this that afforded them such success in the Chinese market.

This desire for control was evident in their decision to create fully owned subsidiaries, rather than franchising their stores. In 2017, over 90% of the Chinese outlets are company owned compared to 12% in the USA. FIND SOURCE

Franchising had been the mainstay of the fast food industry as it involves lower capital investment, along with rapid expansion, and is therefore regarded as less OF A RISK in an uncertain market(Lee, Koh and Heo, 2011) However, the free riding problem (Anderson and Gatignon 1986) suggests that the more recognised the brand name, the higher the level of control needed in the entrance strategies of the firm as the local businesses/ partners are not as invested in the success or integrity of the brand (Rugman and Caves, 1983)

Therefore, KFC can be seen to have retained control of the recognition/perception of their brand through the high control entrance method of ownership-expansion which prevented disparity in quality between stores that might have occurred with franchise model.

This capital intensive ownership model, while expensive, afforded them considerable benefits that are key to their continuing success; control of quality, protecting their business strategy as IP laws were loose at the time, and the ability to quickly adapt to the constantly changing menu brought about by their decision to employ a localised approach.

Anderson and gatignon (1986 p12) state high degree of control afforded by a wholly owned subsidiary expansion is also suited to firms whose products are customized in the foreign branch.

A question many firms seeking to expand into new markets face is to what extent they should adapt their product for the preferences of the host market while still maintaining their identity as a brand. Having learned from their failed entrance in to Hong Kong in 1973 employing a globalized approach (Bell and Shellman, 2011) KFC opted for a multidomestic strategy; they created a vastly more extensive menu with items localized to Chinese tastes across different provinces. KFC also had a localized approach to décor and advertising; according to former CEO of YUM China division Sam Su this was in attempt to appear ‘China made’ and a part of the local community (Sam Su quoted in Bell and Shelman, 2011). They capitalized on the Chinese values of family with food at the centre of culture, working to transform KFC stores into dine-in experiences for the whole family, aided by their advertisements geared towards the Chinese family structure. This localization has contributed greatly to KFC’s success in China, as other companies have realized in the fast food industry localization is key and it is not feasible to employ a global strategy of standardized products. This degree of localisation demands a vast amount of local knowledge to understand different regions and tastes; KFC were pioneering in employing polycentric management to overcome this issue(Schollhammer, 1969)

Dunning (1977) suggests that there is a ‘cost of foreignness’ when internationalizing, concerning differences in language, legal institutions and culture, as well as a simple lack of knowledge. This is echoed in The Upsala model which assumes the level of commitment/invesmtnet when entering a market is dictated by a lack of knowledge ( (Johanson and Vahlne, 1977) To overcome these barriers and close the phychic distance (Ciszewska-Mlinaric and Trapczyński, 2016), KFC made the decision to hire a group of Taiwanese nationals dubbed ‘The Taiwan Gang’ (Liu, 2008). They were Western educated, with experience in industry practises, combined with the local knowledge, culture and language, therefore allowing KFC to overcome the issues foreign firms usually face when entering a market. Subsequently employing Chinese nationals brought about acceptance of the firm ((Ramudo and Carrascosa, n.d.)) and transitioned the perspective of KFC to be seen as China homegrown, with western ideals.

The creation of a centralized distribution network was arguably the largest contributing factor to kfcs success in china, allowing them to control quality while following model of rapid expansion.REPHRASE?. Managers/FIRMS face two options when entering in to FDI; to vertically integrate by expanding production within the company up or downstream, or to horizontally integrate by outsourcing some stage of the production (Caves, 1971). Gillies (Ietto‐Gillies, 2007) argues there is a “superiority of direct production” due to the gains in efficiency brought about by lower costs, suggesting a firm should internalize through the high control method of direct equity. (Buckley et. Al 1976). The distribution network created consisted of 11 logistics centres and 6 satellite centres across the country, a fleet of trucks and MANY warehouses. By vertically integrating, and internalizing their production they were able to build scale, control quality and rapidly expand across china. Vertical integration allows closer control of performance (keegan et al. cited in Anderson and Coughlan, 1987); a supplier rating system allowed stores to purchase from the highest performing suppliers, resulting in a strategy that permitted/ENABLED both rapid expansion into new geographic territories and optimal quality of their products/stores.

This degree of control, while incredibly capita/equityl intensive were essential for KFC to conquer China (Hottovy quoted in Foley, 2010) due to the insufficient infrastructure and a shortage of qualified logistics service providers at the time.

Indubitably the entrance strategies employed by KFC, driven by a high degree of control, facilitated their successful expansion into china. However this placed KFC in a vulnerable position, due to their commitment to a volatile market (Ahmed, 1977 CITED IN Carter, 1997)

Even when control is essential for the success of the foreign subsidiary, when in the form of high resource commitment ( Davidson, 1982), such as ownership and vertical integration, it brings about an equally high level of risk (Herring, 1986) owing to the inflexibility and therefore inability to adapt to changes in the environment (Anderson and gatignon 1986 p3). This increased risk can be framed in regards to the threats that presented KFC.

Prior to the discussion of threats, the distinction must be made that the analysis is of their position in 2016, before the creation of the separately traded parent company, YUM China. At this stage of the discussion, KFC China was still a subsidiary of KFC and therefore owned by the parent company YUM.

To assess the threats facing KFC in 2016, PEST analysis, developed by Francis Aguilar, will be applied. The framework highlights macro-economic, external elements of the business environment that may pose a threat to the business; Political, Economic, Social and Technological.

When evaluating sources of risk, the China - US trade war must be addressed; great uncertainty existed regarding the possible consequences, including the concern that anti-US sentiment might be incited, shifting consumer spending away from American companies, favoring local restaurants instead. However, due to their alignment with Chinese values and the perception of KFC as an increasingly Chinese firm it was unlikely that KFC would have beeen impacted significantly. The threat of retaliation by the Chinese government was also POSSIBLE; the possinle retaliation of policies to favor local firms was A CONCERN, however due to the significant impact of MNCs on/to the economy (KPMG, 2014) it would have been incredibly drastic to target them( Gupta, 2014). Furthermore, KFC was RELATIVELY unique in their vertically integrated supply chain, lessening the impact any tarrifs would have imposed.

The most serious issue KFC faced at the time was concerns relating to food safety and quality, having suffered the accusation of the use of growth hormones, and two outbreaks of avian flu in 2005 and 2013 (Monica, 2014). Though the former accusation resulted in same store sales declining by 13% in 2013 (Wang et al., 2016) they rebuilt trust with their customers and have seen increased growth since(YUM China Holdings, 2018).

PEST encourages discussion, yet is deeply flawed in providing richer analysis as it is very general; either referring to the industry or the country as a whole, rather than the company or even individual stores. With over 5000 locations across china, the threats are varied and it is not appropriate to unify the level of risk across each branch/location/outlet. POSSIBLY DELETE

Perhaps the identification of threats is redundant all together. In actuality it is only unidentified, unknown unknowns (Hannabuss, 2016) that manifest; once identified, threats are mitigated against (D.Tischer 2018, pers comm. 3 December) and their power to endanger the company is diminished. The threats identified for/to KFC were external and so the only mitigation is to adapt. CRUCIALLY, due to their inflexibility, caused by the capital/equity intensive form of FDI, they were unable to adapt to any vicissitudes in the market.

The risks to KFC identified by the PEST analysis can be summarized as external uncertainty, volatility or unpredictability (Herring, R. 1986 cited in Buckley and Ghauri, 2014) in the Chinese market. Uncertainty, as described by Knight (1921) is a risk that is immeasurable; due to impartial knowledge of the environment the outcomes of aby changes were unknown and so could not be mitigated against. Yncertainty does not pose a risk in itself, the risk lay in KFC’s inability to adapt. Some firms, in response to volatility, increase their degree of control on their operations (Anderson and gatignon 1986) however this leads to a commitment to a failing operation if the environment demands flexibility to adapt (Root 1983). Therefore, when this uncertainty is present in the market, firms should avoid ownership of equity, to allow as much flexibility as possible (Williamson 1979).

It follows that KFC’s inability to ADAPT due to their high degree of control, and their risk averse nature (Beckert 1996) was/were the driving force behind the creation of YUM China. Perhaps there was mounting pressure from shareholders, leading them to license and receive returns while they could (Rugman and Caves, 1983). Certainly the SPLIT allowed KFC to decrease ownership, relinquish control hence reducing their risk. (Williamson 1979).

Perhaps a more effective long term growth strategy would have been to distribute their risk once they were established; had they adapted their model towards their American model of franchising once they had a distribution network, their commitment would decrease and increased flexibility might have allowed them to adapt to any threatening environment changes.

While some limited literature explains a firms exit from an uncertain market, no theories of internationalisation explain the process of a firm investing in high control, vertically integrated FDI, followed by their immediate exit from a market. 

Gillies states that MNCs are complex and that their decisions are not easily explained by THEORETICAL APPROACHES; this lack of theortical analysis suggests that much of the literature is outdated or obsolete, not reflecting the vast changes to the business environment that have ctaken place over the past three decades.

In conclusion, the entrance strategies employed by KFC enabled them to become the most successful fast food restaurant in china. Their distribution network allowed quality assurance of their products as well as rapid expansion across China, while their incredibly localized approach, aided by polycentric management, allowed them to appeal to the different preferences across regions, aligning themselves with the values of the customer. Without these high control strategies they would not have been able to create the blueprint for fast food company expansion that is replicated by nearly all other companies globally.

NONETHELESS Despite the critical role control played in their success in China, it was equally critical in their eventual exit from the market. Their inability to adjust to future market vicissitudes owing to their heavily controlled entrance methods and operations, was their DOWNFALL and it was their eventual desire for decreased control that lead to their effective de-internationalisation in 2016.