Strategic Analysis: PepsiCo’s Restaurant Business Divestment

Introduction

In 1997, Pepsi Co announced that it would spin-off its restaurant business into a separate publicly traded company through issuance of tax free new stocks. The argument put forward by the PepsiCo top management was that the firm would like to concentrate on its core carbonated beverage business. It would be complemented by the high profit yielding snack foods division of Frito Lays.

The figures below for FY ’96, show that the restaurant business contributed the least to the profits earned by PepsiCo conglomerate. This was largely attributed to the sluggish growth in this segment.

PepsiCo was compelled to take the divestment route to boost its stock price and somewhat mollify the investors, analysts and the markets in general.

The restaurant business consisted of the following entities and each of them showed modest or negative growth in revenues on YoY basis

Roger Enrico, the then PepsiCo CEO opined that

I believe the new restaurant company will be a powerful organization with great potential. For the separated companies, independence would make them far more capable of improving their operations to create solid, sustainable growth.

PepsiCo emphasized that it already has taken steps to prepare its chains for independence, including consolidating their payroll, accounting, purchasing, data processing, construction and real-estate functions as well as unifying foreign operations under a single management team. Franchisees willing to comment on the spin-off gave upbeat assessments of the deal.

David Adelman, restaurant analyst at Dean Witter Reynolds predicted that –

Intangible boon to the spun-off restaurant company would be greater pride of ownership. Its managers could be inspired by a more direct compensation correlation between what the company earns and their rewards.

Larry Walker, controller for Holland Foods Inc., a 17-unit KFC franchisee in Texarkana, Texas, said that, after the spin-off, “These separate companies will have a clearer direction. PepsiCo’s been a conglomeration; you get confused when you try to run that many businesses.”

The new company was subsequently incorporated as Tricon Global Restaurants Inc (TGI) with the following assets under its possession –

Besides TGI would benefit from certain advantages once it is spun off from PepsiCo –

Sound commercial credit rating

High cash flow contribution from franchising fees and royalties

Strong asset base in its real estate portfolio and ownership of nearly 13000 restaurants

Pepsi did not transfer any of its $9.5 billion outstanding debt to the new company

Tricon Global International (TGI)

Tricon Global International (TGI) is the holding company for the three restaurant brands of PepsiCo

• Kentucky Fried Chicken (KFC)
• Taco Bell
• Pizza Hut

It owns, franchises or licenses the 29,000 worldwide branches of the three chains, whose worldwide sales exceeded $20 billion in FY ’96 and was second only to $32 billion sales of McDonalds.

The newly formed entity TGI would also be the world’s largest chain in terms of the number of outlets under its management, with around 29000 units.

Kentucky Fried Chicken (KFC)

Kentucky Fried Chicken was started in 1939 in Corbin, Kentucky. After ownership changed hands through the decades, it was finally acquired by PepsiCo in 1986 and rechristened as KFC.

KFC primarily offers fried chicken recipes of which the iconic one is the Original Recipe – prepared with secret blend of 11 herbs and spices. It was devised by the restaurant chain founder, Colonel Harlan Sanders.

It later started to complement the mainstay product with add-ons like bread, potatoes, gravy, desserts and non-alcoholic beverages and also offered non-fried chicken dishes.

The food is prepared and delivered on made-to-order basis, as and when customers place orders.

KFC is the market leader in chicken QSR with 55% of the market share in the US in 1997.

The revenue share of the dining formats is as below

The revenue share on the basis of customers is as below

As of 1997, KFC operates 10397 outlets in 79 countries.

In the US, KFC operates 5120 outlets either through franchises or through licensees. TGI is aggressively developing non-traditional outlets like educational campus, airports etc, where it expects to realize significant revenue that would reinforce sales from traditional outlets.

KFC also has a significant international presence, with its major markets as below