Franchisees Sue KFC to Keep National Marketing Control

Posted by: Nick Leiber on January 15, 2010

This is a post by guest blogger Janet Sparks. It is cross-posted on Blue MauMau.

donsniegowski.jpgThe KFC National Council and Advertising Cooperative, Inc. (NCAC) filed a lawsuit last week against the world’s most popular fried chicken chain after KFC’s corporate office made a number of marketing blunders in promoting a new product, Kentucky Grilled Chicken, without authorization. The legal action is seeking an injunction to protect US franchisees’ rights in having control over the marketing group, as the company tries to infringe on its authority. Although the complaint is against KFC Corporation, it clearly points the finger at KFC’s newly appointed president Roger Eaton for his aggressive tactics against council members. The complaint states, “After operating smoothly and successfully under NCAC Certificate and Bylaws…for almost twelve years, from 1997 to 2008…NCAC’s working relationship with KFC changed abruptly.” Their primary reason, “…the appointment of a new president…Roger Eaton.”

Last May, in an effort to promote the launch of its new grilled chicken products, KFC, under parent company Yum! Brands, announced on the Oprah Winfrey show a free two-piece grilled chicken meal through downloadable coupons. But when the response became too much for the chain, KFC sent letters to franchise owner-operators telling them not to honor the promotion. After angry customers were sent away with rain check coupons in hand, a class action lawsuit was filed in July to hold the chicken chain responsible for the marketing debacle.

According to news reports, that suit resulted after Eaton made a startling admission. The KFC president was widely quoted as saying that despite the huge public outcry over KFC’s refusal to honor its coupons, the promotion had been incredibly lucrative: “There’s no one in America right now who doesn’t know we’re selling grilled chicken.” To add insult to injury, Eaton reportedly bragged to the Associated Press that “the critical thing for us was to get people to eat the chicken, whatever it took.”

The complaint filed in the Chancery Court of Delaware alleges that KFC has recently taken the position that it has the sole authority in making decisions for the NCAC. But that isn’t what the contract says. Although the advertising council originally incorporated in 1969, the current certificate and bylaws of the NCAC were adopted in 1997 after extensive negotiations, in connection with a settlement agreement of various class action litigation against KFC in federal court. KFC was limited in its ability to make marketing decisions, being authorized to mainly hire or fire an advertising agency or a public relations firm. In order to induce franchisees to conduct national advertising and make contribution to the fund, KFC agreed that franchise owners could command the NCAC through a franchisee-controlled board.

The “operational guidelines” through the settlement agreement were adopted for the period of 1997 through 2008. According to the complaint, they remain in effect with the certificate and bylaws as amended through February 2009 with unanimous support from the NCAC Committee, made up of more than two-thirds of franchisee representatives.

The 17-member council consists of 13 franchisee representatives and four KFC corporate officials. The NCAC is operated in one section of Louisville, Kentucky, while the KFC corporate office is in another. Operational guidelines of the National Council clearly demonstrate that there is to be a substantive “give-and-take” process between KFC Corp. and NCAC prior to submission of advertising to the full committee. And it states that the bylaws do not contemplate a dictatorial “take-it-or-leave-it” approach, according to the lawsuit.

But Eaton would like to change that. Under Eaton’s presidency, new changes to NCAC’s structure are being proposed that franchisee members feel will transfer power away from the council franchisees and go to KFC corporate.

Because Eaton does not have the history with NCAC that previous presidents had, having risen through the ranks of KFC International in Australia— where a more traditional organizational structure exists in which franchisees in advisory councils typically vote up or down on the franchisor's marketing initiatives in a consultative capacity. Franchisee members feel he does not have the appreciation for their elected officials and their authority. They state that the president regards franchisee members of the Council as obstacles rather than partners when it comes to control of marketing decisions and funds.

In addition to the legal constraints that the contract puts on KFC, members feel that Eaton’s contempt of the NCAC structure, along with his aggressive position that KFC’s future lies with grilled chicken rather than fried, is a disastrous recipe from a marketing perspective. KFC’s recent media and advertising proposals to the marketing council have been heavily, if not exclusively, lopsided towards grilled.

Last December KFC wrote a stern letter to council members, advising them that corporate had the sole authority to make recommendations and the right to make changes as reflected in the organizing documents of the NCAC. “It cannot be trumped by the exercise of a majority vote of the Committee,” it declares. It states that KFC will reject any illegal use of majority power and “will oppose by all necessary means under Delaware law any attempts to disrupt the allocation of responsibilities set forth in the organizing documents of NCAC.”

NCAC’s counsel shot back reaffirming that KFC’s position is contrary to the bylaws and certificate of the council that has been negotiated and signed by KFC. The franchisor does not have the “sole authority” to act regarding marketing and advertising. They can only recommend to the Council. The letter also stresses that the NCAC Committee has always acted in good faith. They asked that KFC do so as well. “To that end, we ask that KFC cease and desist from attempting to stop the Committee [NCAC] members from exercising their fiduciary duties, and work collaboratively with the NCAC...in the best interest of NCAC and all of its members.”

In its petition motion to expedite, also filed on January 7, NCAC pleads with the court to schedule the trial by mid-March, 2010. It explains that the 2010 media and advertising calendars must be approved by the NCAC by the end of March in order for advertisements to be prepared and ready for approval and airing in May 2010. If it is not resolved by then, they declare the NCAC will be irreparably harmed.

The council members also claim that KFC is taking retaliatory measures against franchisee members for having the temerity to oppose Eaton’s will. It adds, “...including threatening those members with personal liability for exercising their votes as Committee members of NCAC, launching arbitrary audits of their stores and threatening to defranchise them.”

In an effort to get comments from those on both sides of the issue, numerous phone calls were made to litigants and their attorneys.

Jonathan Blum, Yum! Brands senior vice president of public affairs stated, "This is a baseless lawsuit over a U.S. franchise contract. YUM Brands fully expects to win the suit and minimize the waste of time and money spent on it so that we can continue to satisfy our customers and grow the business.

We have a tremendous leadership team driving the major changes needed to turnaround KFC in the U.S., including last year's successful introduction of Kentucky Grilled Chicken, which will generate nearly $1 billion in sales in its first year."

Allan Forsythe, executive director of the KFC National Council and Advertising Cooperative, would only say, “This is a pending litigation matter and we do not wish to comment at this time.”

Janet Sparks is a reporter and blogger for Blue MauMau, a daily business news site for franchise buyers and owner-operators, and a columnist/reporter for Franchise Times magazine. Previously, she was the owner/publisher of the Continental Franchise Review, an industry trade journal first published in 1967.

Reader Comments

Carol Cross

January 15, 2010 03:36 PM

This lawsuit by the KFC National Council and Advertising Cooperative appears to be justified and necessary to maintain the negotiated control and the formal agreements that encourage cooperation by Corporate and its franchisees in the use of the franchisees contributions to the advertising funds.

Importantly, this lawsuit is necessary to prevent possible future exploitation of its franchisees by KFC in future price wars in the Fast Food Industry. It is the franchisees who bear the costs of the price wars and the competition in the fast food industry.

If Kentucky "Grilled Chicken" does generate nearly $1 billion in sales in its first year, as is stated?? -- I'm sure that the Franchisor, KFC, will claim that this breach of the good faith agreement with KFC NCAC was in the best interests of the franchise system and the franchisees because it increased the gross sales of the system even though it was the franchisees who ATE the high costs of the "give away" before corporate KFC were forced to stop the promotion, in their best interests.

Obviously, Mr. Blum of Yum Brands is confident that the "invincible" franchise contract and the stacked deck for franchisors will, as always, protect the franchisor's position in the courts.

http://thegreatfranchisingrobbery.blogspot.com/

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What's it like to run your own company today? Entrepreneurs face multiple hurdles new and old, from raising capital and managing employees to keeping up with technology and competing in a global marketplace. In this blog, the Small Business channel's John Tozzi and Nick Leiber discuss the news, trends, and ideas that matter to small business owners. Follow them on Twitter @newentrepreneur.

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