Lessons About Franchise Risk From Yum Brands and Schlotzsky’s

Abstract

This Article presents YUM! Brands, Inc. disclosure information and presents valuable insight into the risks of starting a business that shares intellectual property with another party. YUM! is the parent of entities such as KFC, Pizza Hut, and Taco Bell with locations around the world. YUM! is particularly useful because of its mature operating concepts. Sandwich shop franchisor and operator Schlotzsky’s, Inc. presents a different aspect of shareholder and franchisee risk. The facts leading up to Schlotzsky’s bankruptcy filing represents what can go wrong with undercapitalized franchise operations because franchising is inherently risky for anyone. This Article seeks to answer questions facing all seeking to use a franchise concept: “What are the major risks perceived by those engaged in the universe of franchise businesses? What potential risks, if they become reality, may cause substantial increases in operating costs or threaten the very survival of the enterprise?” This Article provides a roadmap for understanding franchise risk and an opportunity to understand, and reflect upon the multi-million-dollar research, investment, and documentation of perceived system risks. Relevant annual report disclosures from YUM!, along with other YUM! documents, are discussed. Descriptive language from YUM!’s regulatory filings with the Securities and Exchange Commission is utilized to show what the management personnel of this franchise powerhouse perceive to be its major categories of risk exposure. The primary point of this Article is to repackage the risk disclosure language from these enterprises so that franchise entrepreneurs, their lawyers, and other readers may benefit. Our goal is to have a meaningful and scholarly impact on readers who are now, or will be, creating jobs through their efforts in growing businesses. They will proceed into the chaos of the capitalistic marketplace with valuable lessons in franchise risks. This Article has five sections. First, we provide a background and overview of franchising. Second, a primer on franchise law. Third, we examine YUM!, and focus on its risk disclosure language. Fourth, we describe the history and circumstances leading up to the 2004 bankruptcy of Schlotzsky’s. Lastly, we conclude with our thoughts on the lesson gained from disclosure documents and a bankruptcy investigation.