The Krystal Company

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The Krystal Company

I Union Square
Chattanooga, Tennessee 37402
U.S.A.
Telephone: (423) 757-1550
Toll Free: (800) 458-5841
Fax: (423) 757-5610
Web site: http://www.krystalco.com

Wholly Owned Subsidiary of Port Royal Holdings
Incorporated: 1932
Employees: 8,150
Sales: $257.4 million (1998)
NAIC: 722211 Limited-Service Restaurants

The Krystal Company develops, operates, and franchises a chain of fast-food hamburger restaurants in the southeastern United States. Founded in 1932, Krystal is the second-oldest fast-food chain in the country. The company’s success stems in part from its continuity. Famous for its Krystal burger—an onion-flavored, steamed, square patty that is much smaller than other fast-food hamburgers—the company has created a niche for itself in the highly competitive fast-food sector. However, class action lawsuits forced Krystal into Chapter 11 bankruptcy protection in 1995. When the company emerged in 1997, it was acquired by Port Royal Holdings, a closely held investment company belonging to Philip Sanford. Now a wholly owned subsidiary of Port Royal, Krystal owns 241 restaurants, and its franchisees operate an additional 110 units.

The Early Years: 1932-60

The Krystal Company was founded in the midst of the Great Depression by textile businessman R.B. Davenport, Jr. Inspired by White Castle, a fast-food hamburger business that preceded Krystal by 11 years, Davenport opened the first Krystal in 1932 on a busy street in downtown Chattanooga, Tennessee. Davenport christened his venture Krystal because his wife admired how “crystal clean” the restaurant was. In an effort to distinguish his restaurant from others, Davenport chose its distinctive spelling. The restaurant flourished, as value-conscious Chattanoogans flocked to Krystal for its five cent hamburger.

Buoyed by the success of his restaurant, Davenport opened new units in the 1930s and 1940s. Although the company grew rapidly throughout the Southeast, Krystal never sought to extend itself too far north because of an agreement it had reached with White Castle soon after Krystal debuted. Because the two companies offered such similar products, they pledged never to compete head-to-head in the same market. “The old Mason-Dixon line is the separation between Krystal and White Castle territory,” a Krystal spokesperson later told the Atlanta Journal-Constitution. While White Castle proliferated in the Midwest and the Northeast, Krystal centered its empire in Tennessee, Georgia, and Alabama.

The pace of Krystal’s expansion accelerated in the 1950s and 1960s, as hamburger chains became part of the American landscape. The rise of a car culture in post-World War II America did much to spur this growth. Fast-food chains such as Krystal and White Castle were eager to accommodate their customers’ love of cars. Following the example of drive-in movie theaters, fast food purveyors built drive-through restaurants. By 1950, Krystal had stopped constructing restaurants with a seating area inside and opened only drive-throughs. Unlike the drive-up windows that became prevalent in the 1980s and 1990s, these early drive-throughs retained many aspects of a restaurant. Although customers ate in their cars, waiters took orders and brought the meals out.

Expansion and Brand-Building: 1960-90

In the 1960s and 1970s, fast-food restaurants began to occupy a new niche in American society and were no longer considered a novelty dining destination. Customers frequented fast-food restaurants to get an inexpensive, consistent meal quickly, and convenience became the new standard for fast-food chains. As women entered the workforce in record numbers, eating out became less of a luxury and more of a commonplace time-saver for families with two working parents. Fast-food restaurants again conformed to their customers’ wishes and became even more efficient. Spearheading this effort was the McDonald’s Corporation, which eliminated waiters, streamlined food operations, and pared the standard fast-food menu. By 1970, the fast-food segment accounted for 25 percent of total restaurant spending.

Krystal continued to build its chain in the Southeast during this period, expanding into northern Florida and Mississippi. After drive-throughs fell out of favor, Krystal began building free-standing units offering both sit-down and takeout service, but the company kept its menu much the same, with its small, square hamburger accounting for over 70 percent of the company’s sales. In fact, the company played up its distinctive burger and regional heritage to differentiate itself from its rivals. For example, while McDonald’s boasted of being the largest fast-food chain in America, Krystal trumpeted the fact that its steamed burgers were a favorite of Elvis Presley and Dolly Parton, and that in 1967, country musician Crystal Gale (formerly Brenda Gail Webb) was inspired by Krystal to choose her stage name. Krystal’s positioning was deliberate. As a privately held, family business, the company could not compete directly with the likes of McDonald’s and the Burger King Corporation, so instead of trying to keep pace, Krystal kept its small-town southern image—and its small burgers.

Again unlike many of the company’s rivals, Krystal did not fuel its growth by selling franchises. This was largely because franchising limited the amount of revenue the company could obtain from each store. (In the franchising system, a franchisee pays the company a set fee for rights to the name, as well as an annual percentage of sales. However, the franchisee keeps the remaining revenue). Eventually, though, the company recognized the benefits that franchising could bring. In an innovative departure, however, Krystal chose to become a franchisee rather than a franchisor. In 1969, it created a division called DavCo Foods to procure franchises from other food chains. Most significantly, in 1976, DavCo reached an agreement with Wendy’s International, Inc., a fast-food rival of Krystal, to become the exclusive operator of Wendy’s franchises in Baltimore and Washington, D.C. (As Krystal did not compete directly in these markets, this arrangement did not risk cannibalizing business from the company’s flagship restaurants.)

By 1979, DavCo oversaw more than 30 Wendy’s franchises and was awarded the Wendy’s franchise business in northern Virginia as well. However, DavCo’s per unit operating costs ran above industry standards, casting doubt on the venture’s long-term viability. Undaunted, DavCo bought the Po Folks restaurant chain in 1982. DavCo, however, proved unable to digest this new acquisition. As a result, Krystal spun off Po Folks as a public corporation the following year. The newly independent Po Folks promptly gobbled up DavCo itself.

After shedding DavCo, Krystal focused heavily on strengthening the Krystal brand. Carl Long—who became Krystal’s president in 1981—recognized that the company’s unique products and image were its two greatest assets. To underscore these things, Krystal launched a massive advertising campaign in 1983, featuring a hyperactive cowboy named Sid and a honking stick horse named Sheila who proclaimed that “When you’ve got to have a Krystal, you’ve got to have a Krystal.” The campaign was an unequivocal success. As Nation’s Restaurant News noted on September 17, 1990, during the hey-day of the Sid and Sheila campaign, the “Krystal chain was traditionally known for two things: square burgers and the zany TV commercial tandem.”

Although Krystal bolstered its brand image during the early and mid-1980s, the company did not add many new restaurants to its chain. Even more problematic was the slowing service at its existing restaurants. Since the company’s most rapid expansion had occurred prior to 1980, many Krystal units were beginning to show their age. Worse, Krystal’s in-store technology lagged behind rivals’. With older kitchen equipment, many Krystal restaurants were more labor-intensive—and therefore much slower—than their competitors. The company lost sales.

As its customer base shrank, R.B. Davenport III took action to right the listing company. In 1985, he led a leveraged buyout of Krystal, which enabled the company’s management to “refocus its energies on operating the core Krystal concept,” according to the January 17, 1994 edition of the Wall Street Transcript. Together with Long, Davenport then invested in capital improvements. In addition to making Krystal units brighter and cleaner, he purchased new restaurant technology that speeded the cooking and serving processes. After hiring and training more qualified store managers, he charged them with improving restaurant staffs. The company also introduced new products during this period, such as the Sunriser breakfast sandwich, which debuted in 1989 and boosted Krystal’s flagging breakfast sales by about 25 percent in a few months. Due to these efforts, Krystal’s sales rose at an annual rate of about six percent in the late 1980s. However, the company’s considerable capital outlays meant that profits did not keep pace with surging sales.

Company Perspectives:

While the rest of the world believes bigger is better, we at The Krystal Company proudly offer our customers a hamburger that is fresh, hot, small, and square. In a word, unique. And thanks to over 65 years of brand building upon that small, yet sturdy foundation, The Krystal Company is more than a success. It’s a hamburger institution. So while other Quick Service Restaurants must now battle for position in the customer’s mind, we inspire people to drive halfway across town because nothing else will do.

Changes in the 1990s

Satisfied with the improved quality of existing Krystals, Davenport next turned his attention to expanding the chain. Because the company did not have the resources to fund a building spree, Davenport finally decided to use franchises as the means of expansion, selling the first ever in 1990. While still not completely enamored with the prospect, Davenport recognized that franchising would allow Krystal to add to its empire—and thus build the power of its brand—in a less expensive way (franchisees paid the initial building and equipment costs, which were the most costly aspect of adding stores). During this early phase of franchising, Krystal only allowed franchisees to build drive-through restaurants. These new “Krystal Kwik” restaurants had more limited menus but were easier to open (in 1992 and 1993, Krystal began to permit full-service Krystal franchises). By March of 1992, Krystal had 19 franchised restaurants in operation.

According to the Wall Street Transcript, the average Krystal restaurant reported a per-store profit gain of about 20 percent during this period, but to boost sales and profits further, the company needed to add to its store network. In order to raise funds to launch new, company-owned stores, as well as to institute a more aggressive franchising system, Krystal opted to go public in May of 1992. The company earned $24 million in its initial public offering and devised an expansion strategy whereby Krystal would launch new, company-owned stores in important urban markets where Krystal already had a presence, leaving smaller markets and rural areas to its franchisees. The company’s plan was stalled until June 1993, however, because industry-wide price wars eroded profits. Despite the difficult climate, Krystal earned $7.5 million of income on total sales of $236.7 million in 1993.

With 240 company-owned Krystals and 44 franchises by early 1994, Krystal sought to advance into new markets (over 80 percent of its restaurants were then clustered in Georgia, Tennessee, and Alabama). After venturing into North Carolina and Missouri for the first time in November 1993, Krystal opened restaurants in Columbia, South Carolina, Owensboro, Kentucky, and Little Rock, Arkansas. Moreover, Long announced that Krystal’s ultimate goal was to double the number of its restaurants by 1998 and to have franchises account for 40 percent of the system. “Translating these products into newer markets is part of our challenge,” a company executive told Nation’s Restaurant News on November 15, 1993. At the same time, Krystal did not plan to reach outside the Southeast or to abandon its position as a southern alternative with a unique product. “[We] must remain vigilant about protecting the company’s niche as it expands,” Long stressed to the Wall Street Transcript.

Legal Troubles: 1994-97

Although Krystal’s sales rose in 1994 to more than $248 million, its profits dropped to $6.9 million. Several factors accounted for this decline. Fierce price-cutting swept the hamburger fast-food industry that year, adversely affecting the company’s bottom line. The capital expenditures Krystal’s expansion entailed diminished the company’s profitability, but the most significant factor was a major class-action lawsuit filed against the company by several employees in July 1994. The suit claimed that Krystal restaurant managers had altered time cards to delete overtime work hours and had required employees to stay on call without pay after scheduled shifts had ended. Krystal settled the suit for $800,000, which led the company to take a $2 million charge in the fourth quarter of 1994 for legal costs.

The company’s legal troubles did not end with this settlement. Employees from four other states filed lawsuits in early 1995. In an effort to restructure its finances and to guard against possible negative court judgments, Krystal filed for Chapter 11 bankruptcy protection in December of 1995, but the company remained upbeat. “We think the future looks very good,” a spokesperson told the Tampa Tribune on February 5, 1996. “This is not a typical bankruptcy. The company has the financial resources to conduct business as it normally does,” he maintained.

Acquisition and New Growth: 1997 and Beyond

Krystal emerged from Chapter 11 in April 1997. In September, the company along with its Krystal Aviation Co. and Krystal Aviation Management Co. subsidiaries, was acquired for $135 million by Port Royal Holdings, an investment company owned by Philip Sanford, a former Coca-Cola executive. (Frustrated by the poor maintenance service it was receiving for its corporate jets, Krystal had purchased a fixed base operation—essentially the aircraft equivalent of a gas station and a repair garage—at Chattanooga’s Lovell Field in 1978. The company soon discovered that not only did this arrangement save it money and aggravation on its own planes, but that it could be quite profitable in its own right. In 1992, Krystal Aviation even purchased Signal Aviation Service, another Lovell Field-based maintenance outfit. By the time Krystal emerged from bankruptcy proceedings, its aviation operations accounted for roughly three percent of the company’s total revenues.) Sanford, who had grown up in the South eating Krystal burgers, also purchased 53 percent of the stock owned by the Davenport family, and took the company private. In his new role as Krystal chairman, Sanford instituted an 18-month plan to “reenergize” the brand’s identity. Sanford was confident that he could leverage the Krystal brand and return the company to profitability. “Krystal is a true southern icon,” he noted to the September 8, 1999, edition of the Tampa Tribune. “It is part of the fabric of the South. I don’t know anyone who has a Burger King story. I don’t know anyone who has a Hardees story. But every Southerner has a Krystal story.”

Key Dates:

1932:: R.B. Davenport, Jr., opens the first Krystal restaurant in Chattanooga, Tennessee.
1969:: DavCo Foods is founded by the Krystal family and operates as a Krystal division.
1976:: DavCo opens its first Wendy’s franchise.
1982:: Krystal acquires the Po Folks restaurant chain.
1983:: Po Folks becomes a public company and subsequently acquires DavCo; Krystal launches its famous Cowboy Sid and Sheila the Wonder Horse advertising campaign.
1990:: Krystal begins franchising.
1992:: Company makes initial public stock offering to fuel expansion.
1995:: Krystal files for Chapter 11 bankruptcy protection.
1997:: Port Royal Holdings acquires Krystal.
1998:: Port Royal institutes expansion plan.

Sanford’s approach was multi-faceted. He planned to double the number of Krystals in five years and to use the sale of franchises as the primary growth vehicle. He would not move outside the Southeast but would instead bolster Krystal’s presence in key markets. “Krystal is underpenetrated in every single market,” he told Nation’s Restaurant News on March 29, 1999. “I like the idea of growth in concentric circles.” Sanford also instituted a new store design late in 1999 that incorporated a more traditional look, and he simplified the menu. Moreover, he added new technology, such as Chicksaw Technology’s IntelliKitchen Management System, to improve operational efficiency. After signing an agreement with Jimmy Dean Foods (a division of the Sara Lee Corp.) to distribute frozen microwaveable Krystal burgers to southern grocery stores, Sanford oversaw the release of the Krystal Chik, a small fried chicken sandwich. However, the centerpiece of Sanford’s strategy was to focus on Krystal’s unique core product, the Krystal burger. The company launched a new advertising campaign that used the slogan, “Fresh. Hot. Small. Square.” to underscore the qualities that differentiated Krystal’s products from its competitors. “The Krystal brand is a sleeping giant,” a company spokesperson told Nation’s Restaurant News. As a result of these changes, Krystal expected to achieve significant success as it entered the 21st century.