Korea cross-border consumer: Dining out

There are two sides to Korean food and beverage chain Hollys Coffee’s attempts to crack the China market. The first is best captured by the company’s annual festival, a music and entertainment jamboree that attracts 10,000 who come to hear performances by assorted icons of K-pop. Content is packaged up and used to market the Hollys brand in China, leveraging Chinese millennials’ appetite for a hit of Korean culture. Product placement in TV dramas has a similar effect.

The second can be found in the suburb of Seoul that is home to the Hollys education center. This is where staff from the company’s 600 or so domestic outlets – of which about 70% are franchised – are tutored in making beverages and desserts, adhering to cleanliness standards, addressing customers, and handling complaints. Employees of the local franchisors who run the dozen Hollys stores in China and Thailand, now attend as well.

“From an operational point of view, the most difficult part of expansion is the people. Staff in those countries must replicate how to come up with the right end-product, and to do that you need a well-trained team,” says Joseph Lee, CIO of IMM Private Equity, which has owned Hollys since 2013. “When we entered China, we had to put more effort into getting the right people behind the counter. It’s a new industry in certain countries.”

If you are going to hang your investment thesis on overseas expansion, that might be quite dangerous

The Korean Wave has become a powerful motivator for private equity investors. What began in the 1990s as the country’s popular music and television dramas gained a following in the wider Asian region has evolved into a global phenomenon, triggering demand for beauty products promoted by K-pop and K-drama stars. Maybe the foods they eat will be next.

“Some people thought the K-wave would die, but it hasn’t. If you walk around Bangkok at lunchtime, for example, everyone is watching K-dramas on their smart phones,” says Gordon Cho, founder of Korea-focused GP Elevation Equity Partners. “If you look at what’s being exported, it’s content, consumer goods, and packaged food. There is always an element of eating, and there is more demand than supply. There should be opportunities for well-managed companies to go overseas.”

Most PE investment in the beauty products segment has been predicated on China expansion, and there’s been an uptick in deal flow in recent years. Between 2012 and 2015, $329 million was deployed across 17 transactions. Since 2016, the deal count has doubled, and the amount invested has risen more than fourfold. In other consumer areas, it’s hard to disentangle cross-border plays from domestic market bets, but industry participants tend to rank K-food last in terms of PE activity.

Early movers

Private equity-backed businesses looking to take Korean food into new markets include BHC, a fried chicken chain backed by the Elevation team while part of The Rohatyn Group, which has launched two pilot stores in Hong Kong. Bonchon, a rival fried chicken player acquired by VIG Partners last year, has a larger presence overseas than in Korea. Meanwhile, Advantage Partners invested in a Korean restaurant operator based solely in Beijing.

This is a path already trodden by several domestic conglomerates – but their mixed experiences underline the execution challenges presented by restaurant rollouts overseas. CJ Corporation has built up a sizeable global packaged foods distribution business, going so far as to acquire US-based Schwan’s for $1.84 billion earlier this year in order to get its frozen dumplings into American supermarkets. Efforts to launch Korean dining concepts in China have not been as successful.

In March, the company announced it would downscale the local operations Tous Les Jours, A Twosome Place, and Bibigo following years of unstinting losses. “I have found that chaebols tend to try and enter markets directly without taking into account other people’s opinions,” says Younggi Han, a director at VIG. “Locals with experience in retail probably have better insights into what people like, where to source ingredients, and how to position a business.”

CJ appears to have learned its lesson, recently forming a joint venture with Chinese GP Hosen Capital to develop bakery business Tous Les Jours, which currently has around 160 stores in the country. According to a source familiar with CJ’s food division, the company struggled to adapt to local management methods, while efforts to localize menus diluted the Korean brand value.

Chris Tay, an experienced food and beverage operator in China who now leads consumer focused LTCV Investments Holdings, asserts that trying to go it alone – a strategy pursued by the likes of KFC and McDonald’s in their early days – is no longer viable. Competition from Chinese restaurant businesses, which now include well-run multi-concept chains, is intense, delivery services are eating into profit margins, customers have more choice, and labor and real estate pressures are acute.

“The high-level challenges are that labor is hard to find and good locations are expensive. These two problems have been around for the last seven years and there’s been no let up, in fact it’s getting worse,” Tay says. “It’s also harder to get licenses. The government is putting more pressure on restaurant chains and you don’t want to get into trouble. You need franchisees to help you out.”

Good partners

Some of these issues are specific to China, but others are not. Finding the right local partner is important wherever you go – and Han of VIG identifies it as a key factor in Bonchon’s success. The founder quickly eschewed the hypercompetitive Korean fried chicken market in favor of the US, where his Manhattan-based restaurant won favor among tourists, expatriates and exchange students. Some of these customers became master franchisors.

Bonchon now encompasses 325 restaurants across eight countries. The US is home to 85 of these restaurants, all but three of which are franchised out, including a New York location that serves as a training base for franchisees. Southeast Asia is the company’s largest market, with 34 outlets in Thailand and over 190 in the Philippines. It also has a limited presence in the likes of Cambodia and Myanmar. The goal is to reach 1,000 restaurants within five years.

“The founder was humble, he wasn’t fixated on what concept was right, and he was flexible enough to accommodate other ideas,” Han says. He adds that the initial franchise partners were individuals and families that were fans of the Bonchon brand, not recognized institutional food and beverage players in their home markets. There continues to be a two-way communication channel between the parent and its franchisees, with the latter having input into menus.

Achieving the optimal balance between local flexibility and adherence to the core ethos of brand and taste is a challenge for any dining concept entering new markets. Robust franchise contracts can be helpful in this respect. Common stipulations include minimum marketing spend to ensure the business gets traction, stipulations on store location so that the pace of expansion is sensible, and sourcing requirements. In some cases, franchisees are required to buy certain materials from the brand owner in the interests of quality control. There may also be restrictions on sub-franchising.

“Ideally, you want franchisees to roll out direct stores initially. Some guys just want numbers, they want to say they have 1,000 overseas outlets, but a lot of horror stories come out of that,” says Elevation’s Cho. “The contract might stipulate that for the first few years you cannot do sub-franchising, but once you have proved you are a good operator, then you can issue franchises.”

One of VIG’s value creation initiatives for Bonchon involves staffing up at headquarters so the company can provide more support to franchisees. Most of the revenue comes from royalties – which cover training, operations manuals, assistance with store layout, and the rights to menus, signage and logos – and the sale of proprietary chicken sauces.

There are two main sauces, soy and garlic; the ingredients cannot be altered. Beyond that, franchisees have some scope to experiment, provided they remain true to the brand and to Korean cuisine. In the Philippines, for example, Bonchon offers a three-crunch sauce that is sweeter to suit local tastes. VIG was permitted a similar kind of latitude during its time as the master franchisor for Burger King Korea. While the essence of the Whopper could not be compromised, it was able to launch modified versions, such as a four-cheese burger recipe that was exported to other markets.

No guarantees

What Bonchon and Burger King both benefit from is near universal popularity of their core product: fried chicken and burgers are accepted in most markets. While VIG sees growth potential for Bonchon in the US – its due diligence found that only 14% of local consumers had experienced Korean food compared to 90% for Chinese and over 70% for Japanese – BHC opted for Hong Kong to prove it could survive in a competitive market and with a view to entering mainland China.

The strength of the Korean Wave effect will vary by geography, but most brands can enjoy its tailwinds. “There are certain sectors where you can get more customers by emphasizing Korean heritage. Even though coffee is not uniquely Korean, if you get the right ambiance and the right celebrity spokesperson, you can really tap into consumers in other parts of Asia,” says IMM’s Lee.

At the same time, success is not guaranteed, given the level of execution risk: marketing campaigns can misfire, brands can struggle to find that balance between foreign exoticism and local familiarity – consumers may prefer a more varied offering than the Korean staple of chicken and beer – and management teams can underperform. As such, cross-border expansion should not be regarded as an identikit solution for investors looking to boost returns.

“It depends on the stage, whether you have an existing footprint overseas, and whether you have management team that can deliver rapid expansion,” says Elevation’s Cho. “If you are going to hang your investment thesis on overseas expansion, that might be quite dangerous. If you look at it as the icing on the cake for a strong domestic growth story, and there are enough green shoots to attract a larger audience, it might make sense.”

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• Topics
• North Asia
• Consumer
• Expansion
• Media
• Buyouts
• South Korea
• IMM Investment
• Elevation Equity Partners
• VIG Partners
• Growth capital
• China