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Franchising Rides Wave of Economic Expansion in Asia and Pacific Rim
Franchising World, March 2007
With the fastest-growing economies in the world, the Asia Pacific is a region no international franchise company can afford to ignore for long. By Albert Kong, CFE and Carl E. Zwisler If one works for a franchise system that either is franchising internationally or which is planning international franchise expansion, he undoubtedly has been evaluating opportunities and where to place the company’s development resources. Unless that person has been living under a rock, he must have considered, at least in passing, the attractions of the economically-talented Chinese and Indian markets, each with a population of more than one billion people. The Japanese economy has had its problems, but that it has embraced franchising since the 1970s. A franchise system may have considered franchising in Australia or New Zealand, countries with a language and legal system similar to that in the United States. While everybody is talking about opportunities in the region, are any franchise companies able to go there and operate profitably? Do countries in the region have a pool of qualified prospective franchisees? Do enough people have the purchasing power needed to make a franchise program successful? Does anyone there really understand franchising? Can franchising operate under the laws of these different countries?
An Appetite for Franchising Global franchising consultants, including William Le Sante, CFE, of Le Sante International, who chairs the International Franchise Association’s GLOMAK Committee, are very positive about opportunities for franchising in the region. Le Sante has visited the region with several clients recently, and has concluded, from visits to exhibitions and meetings with local franchise associations, that the Asian Pacific markets are getting ready to take off. Besides the oft-mentioned gold mines of China and India, he is very enthusiastic about opportunities for western franchise companies in Vietnam. Yes, the same country that humbled the United States in the 1970s and ran the capitalists out of the country or into re-education camps. Today, Vietnam is one of the most aggressive trading partners of the United States. Between February and December of 2006, businesses in Thailand, Taiwan, Tokyo, Beijing, Shanghai, Guangzhou, Brisbane, Sydney, Seoul, Ho Chi Minh City, Hong Kong, Kuwait, Malaysia, Singapore, Indonesia and New Delhi expressed an interest in franchising. The region is ready for franchising, according to Asiawide Franchise Consultants Pte Ltd. Another telling sign about this region’s appetite for franchising is that within a period of four years, India now has two franchise magazines and many more franchising events. There were several franchising events within the last 24 months in Vietnam, coupled with two books on franchising written by the owner of a local noodle franchise chain. Indonesia now has three franchise shows a year, and a local franchise magazine is thriving. Despite its internal challenges, the Thai government still allocates funds generously via the Department of Export Promotion agency for Thai franchises to participate in international expositions. Government departments, associations and other institutions in Australia, China, Malaysia, Singapore, Thailand, Taiwan and Vietnam are conducting certificate and diploma level courses to educate more personnel and prepare the ground for the upsurge of human resource demand in the market. In fact, China has established an international franchise academy based in Zhuhai (Guangdong) in partnership with the renowned Beijing Normal University. This tertiary institution will award its first bachelor’s degrees this month.
Government and Economic Factors Foster Franchising A growing understanding of franchising and a growing support for its benefits is one reason to consider franchising opportunities in the Asia Pacific region, but certainly not the only one. The World Bank (the International Bank for Reconstruction and Development) regularly conducts studies of business issues around the world. One study, “Doing Business in 2007” contains an analysis of the best countries in which to do business. Among the top 25 are eight from the region, Singapore, New Zealand, Hong Kong, Australia, Japan, Thailand, South Korea and Malaysia. Although the size of city states such as Singapore and Hong Kong make the list, and they are great places for Westerners and others to base businesses in the region, the other six countries offer plenty of opportunities. In another World Bank report, “East Asia and Pacific Regional Update,” published late last year, one learns that the region is continuing a five-year long economic expansion. “Among the developing economies of the region, aggregate growth of 9.2 percent [in 2006] was the highest in the last five years, and was expected to continue.” Growth in emerging East Asia was expected to reach close to 8 percent in 2006. The report continues, “Once Vietnam reaches middle income country levels, which could happen as early as 2010, more than nine of 10 East Asians will be living in a middle income country.” China’s economy has been growing at a rate in excess of 10 percent for each of the last four years, and even more established economies, such as Japan (the world’s second largest economy) and South Korea are expected to grow at a rate in the 4 percent to 5 percent range, according to the World Bank. Not all countries in the region are on the same pace. Indonesia, for example, continues to suffer from a combination of political unrest and natural disasters, as well as a national franchise law, which makes it less attractive a market to some, although more attractive than Myanmar, which ranks at the bottom of the region’s corruption index as published by Transparency International for 2006. Throughout the region the middle class is expanding, the purchasing power of consumers is growing and poverty is gradually declining. Still, in many parts of the region, millions of people subsist on less than $2(U.S.) per day. Those families are not likely consumers for many franchise products now, but with continuing economic growth, they could be in the future. The Big Mac Index, a simplistic, but helpful comparison of an average consumer’s purchasing power, based upon the local cost of a Big Mac sandwich at a McDonald’s restaurant, provides insights into the markets for certain products. Published by The Economist magazine, the latest discussion of the index (Aug. 31, 2006) shows that an average worker in Tokyo can buy a Big Mac with 10 minutes of work, whereas an average worker in Jakarta, Indonesia, must work an hour and a half to purchase the same sandwich. Although low wages do diminish purchasing power, they also may permit lower operating costs for franchised businesses. Given the size of the region and its obvious opportunities, one would expect that it would already be a primary growth target for many U.S. franchise companies. According to an August 2006 survey by Udo Schlentrich, PhD., and Hachemi Aliouche, PhD. of the University of New Hampshire, published by the IFA, of 104 U.S.-based franchise system respondents to the survey, which have a total of 115,000 worldwide units, only 8.3 percent had focused on the Pacific Rim countries so far, and only 2.3 percent of the respondents had units in China, Macau or Hong Kong. The same franchise companies also revealed their future plans: 9 percent planned to enter the Pacific Rim and 7 percent had their sights set upon China. This is significant growth, but given the size of the opportunity in the region, it seems small. Although most U.S. franchise systems may have placed expansion in the region on the back burner, local Asian-Pacific Rim companies have become infected with the franchising virus and have taken to franchising and are growing throughout the region. One needs only look at the Asia Pacific Franchise Directory 2006 to see how quickly local franchise companies have grown. The directory identifies the members of franchise associations in each of the region’s countries, and shows a membership of between 37 members (Thailand) to 280 plus members (China) and nearly 500 members in Australia. Vietnam has just started a franchise association, and Bangladesh and Mongolia both have franchise associations which are less than five years old. To place these numbers in perspective, in 1975, 15 years after its founding, IFA had about 145 franchise system members. One only may conclude from this phenomenon that franchising is understood and growing, and that a group of professionals and franchise systems are available to assist foreign franchise companies in their efforts to navigate franchising in these markets. American companies also should understand that when they do enter these markets, they, and their master franchisees, will be competing with franchise companies from their host country and its neighbors. In Malaysia, Singapore and Thailand, they may be competing with franchise companies that are taking advantage of government grants intended to help them expand their franchising programs.
Is the next step international franchising? Franchise companies must understand the costs and returns which are necessary to make their programs work in each market and they must be candid in their assessments of the time over which the necessary returns can be generated. The amount of time required to do business in each country can vary dramatically. The time and effort required to obtain permits and licenses needed to conduct business may far exceed the time and cost American companies have become accustomed to at home. Of course, a franchising company should not immediately change its plans and rush to the Asia-Pacific Rim region now just because opportunities exist. Decisions about entering the market, and the timing of such entry, should only be made after considering some of the obstacles to doing business there. American franchise companies must evaluate their capacity to support, from their home offices, business operations which are in time zones 11 to 13 hours different from the U.S. East Coast. That time difference means that a convenient time for even conducting telephone calls from a U.S. office to Asian-Pacific franchisees is virtually nonexistent. Travel time must be counted in days, rather than hours. Given these realities, establishing a regional office may be the only efficient way to provide support to franchisees. English is the principal language or is widely spoken in Australia, New Zealand, Philippines, Hong Kong, Singapore, Malaysia and India. Other languages and dialects are common in countries other than Australia and New Zealand, and are dominant in other countries in the region. According to Le Sante, most educated business people speak English throughout the region. Still, a franchise company will need to be able to communicate in the vernacular, and have manuals, advertising, Web sites, and training materials translated into the local languages, and perhaps local dialects to effectively master a market. Computer software and POS systems will need to function in these languages, and franchise systems will need to identify sources of service and parts for the equipment and computer systems they want their franchisees to use. Regardless of the language spoken, franchise organizations must be acutely aware of the business cultural and political environments within which their franchisees will conduct business.
Legal and Compliance Considerations Besides franchise laws, franchise systems must consider how other laws may affect their franchising programs. In India, for example, if initial franchise or license fees exceed $2,000,000 (U.S.) or if royalty rates exceed 5 percent of gross sales, approval of the India Reserve Bank is required before the funds may be disbursed outside the country. India also prohibits foreign ownership or control of retail establishments. Although compliance with foreign franchise laws may be costly and time consuming, in general, U.S. franchise companies are accustomed to franchising in a regulated environment, and they may find that the playing field is leveled when local franchise systems must observe practices which have been ingrained in American franchise companies at home. Intellectual property protection remains an issue, even in China, which adopted new laws to protect trademarks and patents as a condition to its entry into the World Trade Organization. The problem for foreign franchise companies and other investors often is not the laws themselves, but their enforcement. Six countries in the region have made the process of registering and protecting trademarks easier by signing the Madrid Protocol. They include Australia, China, Japan, Korea, Singapore and Vietnam. The Madrid Protocol allows a trademark owner to register trademarks in its own country and in other member countries simultaneously, and on a cost effective basis. Corruption is a problem in several countries in the region. According to the 2006 Corruption Index published by Transparency International, Myanmar, Bangladesh, Cambodia, Pakistan, Indonesia, and Papua, New Guinea were ranked among the most corrupt countries in the world. Also in the top 50 most corrupt countries were Nepal, Philippines, Laos and Vietnam. China and India (along with Brazil, Egypt, Mexico, Peru and Saudi Arabia) were ranked 70th for corruption, whereas New Zealand, Singapore, Australia, Hong Kong and Japan were ranked among the 15 best countries on the index. The United States was ranked 20th best. Besides the disabling effect corruption has on an economy, it also presents risks for franchise companies from the United States and other countries which are members of the Organization for Economic Co-operation and Development. The U.S. Foreign Corrupt Practices Act, and comparable laws in other OECD countries, prohibits U.S. companies and their representatives from paying bribes to transact business. Even though companies may be advised in their host markets that paying “consulting fees” or bribes is the way business is done, if a U.S. company follows the local practice, it or its representative may be subject to both criminal and civil sanctions. Companies may be fined up to $2,000,000 for violations, and individuals may be fined up to $100,000 and may be sentenced to up to five years in prison. Although certain “facilitating payments” are permitted to induce government officials to perform functions which they are required to perform under local law, no franchise system should make such payments without first consulting with knowledgeable legal counsel. With the fastest-growing economies in the world, the Asia Pacific is a region no international franchise company can afford to ignore for long. Local companies have seized the franchising concept and are shaping it to work for their businesses. Franchising is an accepted and often encouraged form of economic development in the region, and is likely to continue to grow. The region is very attractive, provided franchise systems evaluate the risks and opportunities in each individual market before committing their resources.
Franchising Resources The CIA World Factbook provides a very good overview of the government and economy in each country of the world. It is available online, without charge. The Economist Intelligence Unit provides a detailed analysis of commercial, cultural and legal aspects of doing business in most countries of the world. U.S. Commercial Service officers, in U.S. embassies throughout the region, provide U.S. franchise companies with information about franchising in their host countries and offer several programs to help U.S. franchise systems to identify and screen potential franchisees. The International Franchise Association provides a wide variety of information and educational resources designed to aid franchise systems in international expansion. The association’s Web site is www.franchise.org. IFA Vice President Marcel Portmann is available to aid companies in gathering research and information about foreign growth. He can be reached at mportmann@franchise.org. Albert Kong, CFE, is the CEO and managing director of Asiawide Franchise Consultants Pte Ltd., Asiawide Business Consultants Pte Ltd. and Asiawide Trends Pte Ltd. He can be reached at albert@asiawidefranchise.com. Carl E. Zwisler is a lawyer in the franchise and distribution practice group of Haynes and Boone, LLP in Washington, D.C. He can be reached at carl.zwisler@haynesboone.com.
Many franchise companies have had these questions and they are not alone. In the paragraphs that follow, some of these questions will be answered and others will be raised. But a review of the newly-published Asia Pacific Franchise Directory 2006 leads to an unmistakable answer: hundreds of franchise systems, most of them native to the region, have sprung up, grown networks, formed associations and are granting franchises in their own and neighboring countries, while many American franchise companies sit on the sidelines pondering the potential.
Even when tensions arise in franchise relationships, governments are getting involved. The Korean government has spent millions of dollars on mediation sessions between feuding franchise systems and franchisees. The Singapore and Malaysian governments are still generously supporting, with grants, “deserving and eligible” companies to expand their business via franchising.
Should U.S. franchise systems focus more on the Asia Pacific region for international franchising? Reasons for doing so abound, provided the company is truly ready for international franchising. To be ready means to have a successful operation at home, which is generating enough in cash flow to support the effort, or to have additional investment available to support the foreign investment, and the delayed returns which come from international franchising. If the company is considering master franchising, it must be careful to make the requisite investment in legal documentation, development plans and support services for master franchisees which are critical to the success of its foreign master franchise program. A franchise brand alone will not make a franchise successful in most international markets.
Many countries in the region have adopted laws which regulate franchising, and in particular, the conduct of franchise companies. They include Australia, China, Indonesia, Japan, Malaysia, South Korea, Taiwan (China) and Vietnam. Before venturing into these markets, franchise companies must understand how they will comply with those laws, as well as others. In China, for example, a company may not grant a franchise unless it has operated at least two units on a company-owned basis for at least one year. Even establishing a local business or joint venture requires government approvals which are more difficult to obtain than in other countries. Thailand is said to be considering adopting a franchise law, and China is considering either issuing regulations to clarify its measures, or to adopt a new law. An excellent summary of existing franchise laws and how they apply to international franchise systems, International Franchise Sales Laws, was published in 2006 by the American Bar Association’s Forum on Franchising.
Where can a franchise company learn more? Asiawide Franchise Consultants’ The Asia Pacific Franchise Directory, published in 2006, lists members of franchise associations throughout the region, and provides an overview of the laws in most countries in the region. The Web site, www.asiawidefranchise.com, makes available a calendar of franchise expos and seminars throughout the region.
