Executive Insights | May 2012 | By Barney Wolf

David Novak’s Global Vision

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The Chinese “just love” American products, from food to movies, says Frank Tian Xie, assistant marketing professor at the University of South Carolina at Aiken.

Some Chinese restaurant operations tried to compete head-to-head with KFC, he adds, “but they could not keep up with the quality control and cleanliness.”

If there are headwinds in China, they’re accelerating inflation and labor costs. Prices “are rising faster than the government says, and labor costs are up sharply,” Xie says.

Hoping to echo its China success, Yum made India a separate division this year. Novak says India, home to 1.2 billion people, “is on the same trajectory that China was on 10 years ago.” More than 100 stores opened there in 2011.

In addition to a leading presence throughout Southeast Asia, Yum also has 650 restaurants in South Africa and plans to add stores in seven more African nations this year. It also recently acquired 150 KFC units in Russia from a franchisee.

“In the emerging markets we have less than three restaurants per million people,” Novak says. “In the United States, it’s 60 per million.”

The growth potential positions Yum to “legitimately say that we can achieve our vision, which is to be the defining global company” in the restaurant space, he says.

While performance has been tremendous overseas, Yum brands have suffered in the U.S. Even with improvement in the fourth quarter, American same-store sales slid 1 percent in 2011, including 2 percent declines at KFC and Taco Bell. Pizza Hut was flat.

Yum plans to continue reducing its American store ownership by putting more units in the hands of franchisees, and last year the company sold its Long John Silver’s and A&W brands, which do little business outside the U.S.

Some analysts now consider the U.S. operations to be irrelevant to Yum’s growth potential. One company official reportedly told investors in early 2011 that KFC is not a big part of the company’s future profit growth in the U.S..

That didn’t help to smooth the choppy waters engulfing KFC and its franchise owners. In 2010, the KFC National Council and Advertising Cooperative, representing franchisees, sued Yum over marketing decisions, notably the focus on grilled chicken.

A Delaware judge last year issued a split ruling, agreeing that franchisees, who fund the advertising, have a right to be involved in the ad process, but KFC’s corporate officials are not obligated to adopt ads that may be harmful to the brand.

Since then, several franchise owners have filed for bankruptcy, partly because they could not meet the home office’s contractual demands to upgrade stores. One veteran franchisee—an officer in the ad cooperative—was reportedly sued by KFC two months after the court decision for not meeting remodeling obligations.

Of the half-dozen major KFC owners contacted to comment on Novak’s leadership, none replied. “They’re all terrified,” says Andrew Selden, a Minneapolis attorney and counsel for the Association of Kentucky Fried Chicken Franchisees. “[They] don’t want to get on the targeting radar.” Battles between KFC and franchisees aren’t new. Even Novak mentions in his book that when he became president of KFC, he inherited a system that had financial problems and was “full of animosity.”

He credits his decision to work closely with owners in developing successful products for helping make his career.

Both sides share blame for the infighting, says Kevin Burke, managing partner at Trinity Capital, a Los Angeles investment bank. Part of the problem lies in franchising agreements that are archaic in the modern restaurant world.

Franchisees today “no longer have the same degree of input because the industry’s matured, and the franchisor is much more capable than in the 1960s and ’70s,” he says. As the industry evolved, companies hired professionals for most disciplines.

At the same time, it’s difficult for franchises to meet remodeling demands if sales keep slipping and the economy is struggling to recover from a recession.

Some KFC franchise owners also have been around long enough that they personally knew the late Colonel Harland Sanders, who founded Kentucky Fried Chicken and whose stylized visage adorns store signs. The owners believe they carry on his vision.

One of the newest of KFC’s 3,000 franchisees, Tabbassum Mumtaz, president and CEO of Apex Restaurant Management, praises Novak’s leadership. He has taken Novak’s course twice.

“David … walks the talk,” says Mumtaz, who counts about 90 KFC stores among his nearly 200 units. “He challenges people, beginning with himself.”

In fact, the owner credits Novak’s class with saving his business in 2009 by sharpening his focus. “I get emotional,” he says, chocking up. “He changed my business, my life.”

While Yum has made missteps over the years, including multibranding restaurants, Novak dispels any notion the company isn’t intent on building KFC’s U.S. sales.

“I can tell you that we are 100 percent focused on making sure we grow the U.S. brands,” the CEO says. He’s looking to drive same-store sales via “additional layers,” such as new dayparts and products, “and we have lots of initiatives that are beginning to take hold.”

Pizza Hut’s same-store U.S. sales jumped 5 percent in the fourth quarter despite heavy competition. There’s now constancy and value with $10 large pizzas, pasta specials on Tuesday, and wing specials on Wednesday. New products are also building traffic.