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Insider Speaks Candidly about Burger King Supply Chain

Reinhart Food Services is one of many vendors managed by franchisee-cooperative Restaurant Services Inc.
Reinhart is one of the many vendors that franchisee-led RSI directs. Photo by Blue MauMau

CORAL GABLES, Fla. – A Burger King franchise leader speaks candidly about franchisees owning, directing and managing the supply chain for all Burger King locations in the U.S. and Canada, both franchised and company-owned. The leader, a former board member of Restaurant Services Inc., a franchisee-owned management company that handles Burger King logistics for the two countries, has asked to remain anonymous.

Founded in 1991, the South Florida-based franchisee cooperative manages the supply of food, packaging, promotional items, distribution and logistics for Burger King's now 7,100 U.S. and Canada outlets. All franchise owners are members and owners of Restaurant Services Inc. (RSI). To give you a sense of the size of the franchisees' national company, Burger King Worldwide saw revenues in 2012 of $1.97 billion. Meanwhile, Burger King restaurants purchased a whopping $3.5 billion in goods and services managed and negotiated by RSI.

When one pores over public statements by Burger King Worldwide to the firm's shareholders, listens to questions by analysts about the chain, or even reads business journals, there is barely a mention of the capabilities and direction of the chain's logistical arm, Restaurant Services. The media focuses on marketing, new menu items and corporate change. The lack of interest in operational issues and the people who run the supply chain is surprising. After all, if RSI were to make a logistical stumble, the chain and brand reputation could take a bad tumble.

As the interview with the former board member shows, a major operational screw-up is unlikely to happen. These logistical gurus are nimble and sharp. They have shown time and time again that they can make delicious lemonade when handed only a turnip.

Franchisees consider Restaurant Services Inc. to be a hidden gem.

Restaurant unit analyst John Gordon, principal of San Diego-based Pacific Management Consulting Group, thinks that RSI has been helpful to both franchisees and franchisor through thick and thin, even when communications between franchisor and franchisees underwent rough periods marked by heavy litigation in the last fifteen years. "RSI has been able to provide Burger King franchise owners with useful system performance metrics such as sales, menu mix, marketing plans, food commodity cost movements and other key benchmarks in a more productive way than Burger King corporate has been able to. RSI data was also of critical use to Burger King corporate at times, as its new POS platforms came on line."

Franchisors in other brands sometimes source products with heavy markups. These steep kick-backs to the franchisor act as hidden royalties, which aren't disclosed to franchise owners. But in purchasing cooperatives, all costs and financial statements are transparently reported back to the firm's owners – franchisees. Gordon thinks that is quite helpful to franchise owners. "RSI's mere existence as a cooperative has taken off the table potential disruptive franchisor and franchisee conflicts on supply chain profit streams that have been troublesome issues in other brands," states the restaurant analyst.

Top 3 Burger Chains by American and Canadian Restaurant Units
Chart by Blue MauMau. Sources: 2012 company 10K reports*

There's been a high turnover of Burger King corporate's equity owners and its CEOs during the past two decades. Burger King corporate operations have seen their firm churned from private to publicly traded three times since just the turn of this century.

By the end of 2012, 98 percent of Burger King's 7,496 American and Canadian restaurants were franchised. That is considerably lower than its competitors (see red chart). The mix is quickly thinning to what the industry is calling an "asset-light" franchising model, in which chains like Subway or Dunkin' Donuts have essentially no company-owned units. By the end of summer 2013, there were just a few dozen company-owned stores left, mainly around Burger King Worldwide's headquarters in Miami. In comparison, the third largest chain, Wendy's, had 6,186 restaurants in the U.S. and Canada at the end of 2012 (see blue chart), of which 23 percent were company-owned restaurants.

Blue MauMau is particularly grateful to Burger King's franchisees in explaining their achievements, their candid insights into the chain and their trust of Blue MauMau to keep their identities confidential. Although this interview is from an ongoing dialog with a former RSI board member, with our last discussion just a few days ago, this first of the two-part series covers a 2012 conversation.

Q: [Don Sniegowski of Blue MauMau] In the franchise world, franchisee-owned national cooperatives are not widely known or written about, even though Subway, Dairy Queen, Wendy's and other major chains have them. Yet analysts and the media turn to these franchisors on questions of supply chain as if the franchisor runs and directs them. It is franchising's version of the "fake out" in football, where the one guy is gesturing like he has the ball, but really the other guy has it — the franchisee. These powerful franchisee-owned structures seem to be a well-kept secret.

A: [Burger King franchise owner and past director of Restaurant Services Inc.] In the Burger King world, our franchisee cooperative is one of the few aces that we have been able to hang on to through all of the turmoil our franchise community has gone through in the last 10 years. Restaurant Services Inc. is celebrating its 20th anniversary this year [2012]. To my knowledge, it is one of the best-managed co-ops of any franchise system. The executives and staff at RSI are all top-notch professionals, in my opinion.

Eighteen board members are franchisees and one board member represents Burger King and its stores. RSI employs very smart people with world-class skills in negotiating, purchasing, supplying services and delivering to our restaurants.

RSI normally doesn't take possession of or warehouse any of the products itself. Suppliers and distributors do. RSI oversees and manages the supply chain process. If something goes wrong or if supplies cannot be delivered, RSI plays the part of a traffic cop. It manages the whole process. But it is still the distributors' job to get supplies to the store.

Contracts are negotiated with the suppliers by RSI for the entire Burger King system.  No Burger King restaurant can buy outside of the contract for, say, beef. The suppliers and the distributors that actually deliver to the restaurants are the ones that use those contracts. Burger King as a corporation has a few restaurants too, so they have to pay in.

As I understand it, 18 of the 19 seats on the board of directors of purchasing cooperative Restaurant Services Inc. are franchisees. Burger King Worldwide occupies one seat with one vote, the same as each board member. Unlike other cooperatives, franchisor Burger King Worldwide does not have authority to override the decisions of the 18 franchisee board members.

That's the way RSI was set up in Burger King back 20 years ago, which was signed into an agreement on how RSI would operate.

Burger King Worldwide still has a lot of control. It sets restaurant menus.  

RSI works closely with Burger King's marketing and development people to make sure they don't set a menu in which the menu item is too hard, impractical or expensive, especially when you could go another way and have pretty much the same product. The national cooperative also works hand in hand with Burger King marketing. Burger King has control over that too. If Burger King wants to do a national promotion, it is RSI's job to make sure that we have the supply that we need for that promotion — or even a regional promotion. Local promotions are just as important.  

RSI has to know new products and services down the pike in order to have enough lead time for RSI to manage the supply chain and deliver that product.  

It is interesting to see these national franchisee cooperatives and how they can bring down the cost of goods sold for franchisees compared to those without supply chain cooperatives, such as Blimpie, Quiznos or even the more robust chain of Domino's Pizza. Is RSI a better supply chain management firm because franchisees own and direct it as opposed to franchisor-run supply management?

Absolute power corrupts absolutely.  

I mean, franchisors start out with the best intentions, but their one-sided power corrupts them. Pretty soon franchisors want more gold, the franchisees' gold. If the franchisor is managing suppliers, you always have the question of what is the franchisor's real deal. What would be the real cost of a franchisee's goods if the franchisor were fully transparent, without managing any kickbacks — or whatever franchisors want to call it—markups.

Moreover, the franchisor isn't as challenged to get the best price. A franchisor might have a deal with Tyson to use Tyson's chicken products while receiving a marketing allowance for several million dollars on top of it. Whereas at RSI, franchisees look at the financials of their supply chain company. All activities are completely transparent to at least the board. And the [elected] board is mostly franchisees. So there is nothing hidden. We are all watching that Burger King has no side deals or anything else. So to me it is more attractive to a potential franchisee that Burger King is a better brand to be in than say, Quiznos, because franchisees can know they'll receive the best deals as far as the purchase of their supply. They're not having to share that with their franchisor, plus paying royalty, plus paying advertising.

It is better for all operators to know exactly what's going on and to have complete transparency in the supply chain.

There's also a problem of franchisors that own and operate few or even no stores. Critics say these franchisors are poised to easily make bad retail calls because they don't have operational skin in their own retail outlets. They cannot fully understand how to run restaurants.

Percent of company-owned versus total N. America restaurants in chain
Chart by Blue MauMau. Sources: 2012 company 10K reports*

The main concern I have about Burger King going to a non-operative position is on several levels. One is the franchisor won't understand — now, not that they always do — they won't understand what it takes for a franchisee to be healthy if they are just collecting [royalties from restaurant sales] from the top line. Most of Burger King's revenue now comes from royalties, not a franchisee's operating profit. Royalties are a stream that aren't as volatile as the bottom line. You can take a few percentages away from the top line and destroy a store's bottom line. It wouldn't affect Burger King's intake much at all.  

Number two, the cost of goods of the commodities and what the specs are get to be less important if you don't have a dog in the operational part. And so the store's bottom line is not important to them at all. They don't understand it.  

I really think a healthy [model] is more like the percentage of McDonalds, where they've got at least 20 percent* of the restaurants owned by the McDonald's Corp, so that they have a lot more insight on what a bottom line of a restaurant is to their overall bottom line. Also it gives them an area to do research and to develop leadership talent.

Burger King is going the other way. It eventually wants just a handful in Miami, according to Ackman [Bill Ackman, founder and CEO of hedge fund Pershing Square Capital Management LP, which has a stake in Burger King Worldwide].

Read the final part of this two-part interview: Burger King’s Gem: Franchisees’ National Supply Co-Op on how investor 3G Capital has been doing and the future

* Note: Twenty percent of McDonald's worldwide locations are company-owned. However, at the end of 2012 it owned 10 percent of the restaurants in its United States system. According to the McDonald's Canada website, it owns 20 percent of the 1,400 restaurants there. Blue MauMau's estimate for both countries combined is based on factoring in the company's 10K report, which didn't break out Canada's mix of company-owned to franchised restaurants, and its Canadian website's general info.

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