McDonald’s, KFC Scandal Exposes Limits of Foreign Reputation for Food Safety in China

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Op-Ed Commentary: Matthew J. Zito

What do milk, meat and dog treats have in common?—For one, each has been the subject of a recent food safety scandal in China. In the most recent incident, a meat and poultry supplier to McDonald’s and Yum Brands (KFC, Taco Bell, Pizza Hut) outlets in China was revealed to be using expired meat in the production of burgers and chicken products.

The seemingly unending string of such incidents, in addition to giving one a certain queasiness of the stomach, also exposes the complex workings of brand reputation in China and the economic and political forces bearing upon it. One thing is clear: gone are the days when foreign brands could rely on a reputation for quality merely by virtue of their foreignness.

This week’s scandal was set off by a Dragon TV report detailing the unsanitary practices of Husi Food Co. Ltd., a Shanghai-based supplier to McDonald’s and Yum. The report featured hidden camera footage of products up to 6 months past their expiry date being processed for human consumption. What is unusual about this incident in the history of food safety scandals in China, however, is that all parties involved, both supplier and receivers, were foreign-owned entities (Husi is a subsidiary of U.S.-based OSI Group, a long-term supplier to both fast-food chains).

This differs significantly from the melamine scandal of 2008, the most well-known to date, in which contaminated infant formula killed 6 babies and sickened at least 300,000. Here, the firestorm centered on state-owned Sanlu Group, a joint venture with New Zealand dairy cooperative Fonterra. The scandal crippled the dairy industry in China, such that foreign brands still hold over 60 percent of the total market for infant formula, despite the best efforts of the Chinese government. At least in this case, Chinese consumers were evidently willing to overlook the involvement of a foreign company in the incident and continued to strongly associate foreign brands with food safety.

But the times have changed. Less and less can foreign companies claim exemption from food safety scandals in China. While McDonald’s and Yum were quick to issue public apologies to Chinese consumers, this is likely to do little for the likes of Yum—hit with two safety scandals in as many years. Indeed, as recently as the first quarter of this year, the company was hailed as having recovered from an incident in late 2012 in which media reports alleged the company’s suppliers in China administered excessive amounts of antibiotics to their chickens.

As a result, Yum took a considerable hit to its profits, triggering a marketing campaign emphasizing the company’s commitment to food safety, as well as a revamped menu at its KFC outlets. The company’s global strategy has put it between a rock and a hard place when it comes to China, where its operations have grown too big to fail. Yum now generates more than half of its total sales from its 6,200 restaurants in the country, the majority of which are KFC outlets.

It is notable that both scandals to rock Yum were exposed through media, rather than governmental, channels. By now, foreign brands in China should be used to occasional media offensives. Indeed KFC and McDonalds previously found themselves caught in the crosshairs of such a report, which took aim at unsanitary conditions in their restaurants. The threat to one’s reputation of public shaming on Chinese television is so great that companies like Apple, Volkswagen and Nikon have all issued public apologies and initiated recalls in direct response to their inclusion in these programs.

The ground is shifting beneath the feet of foreign companies in China. To avoid the costs of putting out one fire after another, investors are best advised to ensure that a robust regulatory and inspection system is in place to monitor their China-based operations. In the meantime, with foreign firms having been declared fair game for media investigation, we are likely to see a boom in China-focused reputation management firms.

Asia Briefing Ltd. is a subsidiary of Dezan Shira & Associates. Dezan Shira is a specialist foreign direct investment practice, providing corporate establishment, business advisory, tax advisory and compliance, accounting, payroll, due diligence and financial review services to multinationals investing in China, Hong Kong, India, Vietnam, Singapore and the rest of ASEAN. For further information, please email china@dezshira.com or visit www.dezshira.com.

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