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Boston Chicken, Inc Case Solution

Solution Id Length Case Author Case Publisher
565 1379 Words (4 Pages) Paul M. Healy Harvard Business School : 198032
This solution includes: A Word File A Word File and An Excel File An Excel File

Boston Chicken is built upon an innovative idea of homemade food at an affordable price. The company adopted some high performance measures like locking in prices and generating customer feedback to generate a viable, quality food chain. However, the financial model of Boston Chicken was never sustainable. The entity focused to aggressive growth at the expense of core business and financial stability, and as a result, huge levels of debt were piled up.

Boston Chickens growth strategy was fragile and was in essence a circulation of money from IPOs and debt to profit through interest based lending. The strategy hinged upon Boston Chicken’s potential to raise capital through debt and equity hoping that swift store growth would create a stable flow of profits from development fees, royalties, and critically, interest payments on loans to the FADs.

Following questions are answered in this case study solution:

  1. As Boston Chicken’s CEO, do you believe Boston Chicken is doing a good or excellent job of accurately reporting its performance and risks to investors?

  2. Is your primary duty as CEO to existing shareholders or investors who might be considering buying stock? How might this change your view of its financial reporting?

  3. What are Boston Chicken’s Key Success Factors? Make sure you stand in the customer’s shoes and revisit the Cash and Valuation Framework.

  4. How well is Boston Chicken performing financially? Are the franchises moderately or extraordinarily profitable?

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Boston Chicken Inc Case Analysis

Note to Excel Calculations

Percentage of Sales method is used to make the financial statements of 1995. Base case Sales are found by adding the sales of first 3 quarters and then projecting sales for the last quarter of 1995.

1. As Boston Chicken’s CEO, do you believe Boston Chicken is doing a good or excellent job of accurately reporting its performance and risks to investors?

Boston Chicken has at best been vague in reporting its financial condition to the investors. Though not fraudulent, Boston Chicken’s financial statements and reporting of revenue cover up significant business and financial risks.

See Note 8: The first key flaw is the lack of allowance for loan defaults in the financial statements of 1993 and 1994. Particularly when a small number of area developers account for a significant proportion of receivables, allowance for bad loans should have been maintained to recognize that all loans may not be received by Boston Chicken. Boston Chicken also had the duty to present to its shareholders the risks inherent in its debt financing undertakings, which is not done due to the nonexistence of an allowance account for credit risk.

Perhaps the root cause of the inaccurate reporting is the fact that Boston Chicken has portrayed the franchises as completely independent entities, which disguised the fact that in many of the cases, more than 80% of the capital was provided by Boston Chicken itself in the form of debt. By doing so, Boston Chicken, the parent company is able to manipulate their financial performance to hide franchise losses and only recognize the royalty payments and one-time upfront fees paid by the area. An accurate assessment of Boston Chicken's financial statements should include the losses incurred by their franchises since they have a noteworthy share in their ownership. In addition, the clause that any amount of the outstanding loan in certain conditions could be converted to equity by Boston Chicken is delusional since it allows Boston Chicken to avoid reporting data regarding loan defaults.

Another important factor that provides a veiled disclosure to the public includes circulation of borrowed money i.e. borrowing or raising funds from IPOS, loaning them to franchises and then showing the resulting interest as income. This circulation has effectively hidden the performance of the franchise’s core business itself.

2. Is your primary duty as CEO to existing shareholders or investors who might be considering buying stock? How might this change your view of its financial reporting?

Being a part of the management, the CEO is required to follow all codes of ethics and in particular code of corporate governance. As the leader of the management, the Chief Executive officer is required to maximize shareholder wealth and take decision solely for the benefit of existing shareholders. An important action in this relationship is to take up positive NPV projects beneficial for shareholders. Moreover, there is a need to avoid agency costs and conflicts by prioritizing shareholder wealth maximization over other personal goals.

Apart from the existing shareholders, the CEO has a responsibility towards potential investors and markets, as well. The goals of shareholders and potential investors might conflict in certain circumstances. In these situations, the management including the CEO must retain transparency and accuracy of all financial data. They must not mislead the market to artificially inflate stock prices or benefit existing shareholders in other illegal ways. As a part of his responsibility, a CEO must make full disclosure of all material information even if it negatively affects shareholder wealth.

In the case Boston Chicken, the management has been guilty of hiding the true profitability and financial risks of the company to swell up the stock prices. The financial statements give an inaccurate albeit legal picture of the firm which misguides potential investors.

3. What are Boston Chicken’s Key Success Factors? Make sure you stand in the customer’s shoes and revisit the Cash and Valuation Framework.

Boston Chickens model of success is built of upon an aggressive growth strategy. The idea of franchising a small number of area developers was part of a strategy which was in sharp contrast to the conventional franchises. 100-200 licenses were awarded to single large businesses, which allowed Boston Chicken to merge the entrepreneurial management with the economies of scale of company owned operations.

Perhaps the most significant factor behind Boston Chicken’s success was the business idea itself. Selling a diverse menu of homemade foods to a large number of customers at an affordable price was a strategy that bore fruit. Boston Chicken correctly identified the target segment as the people who looked for a more convenient and affordable solution to homemade food. Boston Chicken also adopted the strategy of not restricting itself to its core business only. The food chain was involved in three distinct business activities of operating self-owned stores, selling licenses to franchises and providing loans and hence generating interest income from area development managers.

Moreover, long term agreements with suppliers allowed Boston Chicken to lock in prices which resulted in low volatility and hence a more stable business. In addition, the introduction of flagship stores was an innovative idea that led to greater quality of food, increased consistency and an effective use of franchise capacity. Other measures that contributed toward Boston Chicken’s success were the introduction drive through lanes which increased customer convenience, increasing the diversity of its menus and generating customer feedback through touch activated computer terminals at its franchises.

4. How well is Boston Chicken performing financially? Are the franchises moderately or extraordinarily profitable?

Contrary to what the financial indicators suggest, the performance of Boston Chicken is fragile and risky. The core of the financial problem is Boston Chicken's operating structure. The company has taken an unconventional approach to franchising. It makes loans to franchisees for the land, buildings and other assets of each outlet allowing swift development of the chain but also leading to a buildup of vast debt. Boston Chicken services this huge debt with payments from franchises. From a purely financial outlook; however, the company looks impressive the profits that are visible are payments from debt servicing rather than business profits. Most of the firm's assets consist of $700 million in loans to area developers and Boston Chicken's stated returns include interest payments from the franchisees on the money that the company has loaned to them. The company is essentially re-circulating money raised from IPOs and debt and calling it profit.

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