‘Sold on Schultz’
Pinkberry’s big-fish investor, Starbucks’ CEO, is now a target
Pinkberry made a big splash when Howard Schultz, founder of Starbucks, invested $27.5 million in 2007 in the fledgling frozen-yogurt brand through Maveron, his venture capital firm in Seattle.
As franchise sales ramped up the next year, the Schultz name headlined sales materials and press releases as an endorsement, his seat on the Pinkberry board touted to attract franchisees. Pinkberry was destined to dominate, the story line went, with Schultz on board.
One of those who bit, Sam Lewis, a stockbroker and co-founder of Peraza Capital & Investment in Tampa, is now going whale-hunting after his stores in Florida and Tennessee fizzled. He quit paying royalties in September 2012 and Pinkberry ordered him to cease operating by the following March, suing his company Penninsular Group.
Now he’s teamed up with Robert Zarco, the famed franchisee attorney in Miami, whose colleague Alejandro Brito in late March served a subpoena in an attempt to depose none other than the captain of Starbucks.
The claims about Schultz may seem a stretch, and several of Lewis’s accusations could fall into the “let the buyer beware” category. But there’s no doubt about the size of the target. “Zarco would not take a case if he didn’t think there’s a deep enough pocket” to go after, Lewis says.
Brito, the partner at Zarco Einhorn Salkowski & Brito handling the case, says he’d have taken it with or without Schultz. “No question I would have. The Schultz piece adds some additional flavor to what is otherwise a very cogent fraud claim,” he says.
Brito filed the counter-claim against Pinkberry Ventures, the Los Angeles-based franchisor, and did not include Schultz and Maveron as counter-defendants. But he wants to depose Schultz to see exactly how much the famous CEO was involved in plotting strategy for Pinkberry.
“Howard Schultz was advertised as being the force behind Pinkberry, but once Sam Lewis and others bought franchises, Mr. Schultz was nowhere to be seen and did not appear to have much involvement,” according to Brito. “We’ve taken testimony from various franchisees, and they were sold on Schultz.”
Instead, Ron Graves, a long-time Maveron partner who was named CEO of Pinkberry in August 2008, was put in charge, along with four other executives who have since left. “You’ve got one person running the show that we don’t believe is the right person,” Brito says. “He doesn’t come with the appropriate resume.”
Lewis claims the chain is falling behind, insisting on full-service while contenders pivot to the more lucrative serve-yourself model. Average unit volumes were touted to be $905,519 in Pinkberry’s franchise disclosure document for the year ending March 2009. Those plummeted $200,000 by the end of that year—after Lewis’s group had signed an area development agreement—and have hovered around $705,000 since.
Meanwhile Daiwan Choi, part of the two-brother team that gained rights in 2007 to open New York state, Pinkberry’s first expansion outside of California, is out of the business, with Capital Spring, the New York-based provider of mezzanine debt and preferred equity, now owning those stores.
The Chicago franchisee, set to open 25 stores over three years when signing in 2010, has only three stores and has decided not to develop more.
Pinkberry was poised to lead the frozen-yogurt resurgence in the United States—and has since fumbled the opportunity, critics say.
Pinkberry executives would likely beg to differ, if they were willing to comment. No one would, other than the canned “we don’t comment on litigation” line. Jennifer Brockett, the outside attorney for Pinkberry with Davis Wright Tremaine, said via email, “For an operator to take advantage of the franchise system without paying the royalties that support that system is unfair to Pinkberry’s other franchisees and the system as a whole.”
Brockett added: “Mr. Schultz has been a valued board member to Pinkberry. The defendants have no basis for seeking to involve him in this litigation.”
If Pinkberry’s brass had commented, they could state their belief they’re the leaders in frozen yogurt, growing domestically and abroad to 254 stores. They could point out their high-profile backers: Maveron, with the $100-million Potbelly IPO last October as the most recent home run by one of its portfolio companies; Highland Capital Partners in Boston; and M.H. Alshaya, the giant Mideast and London retail franchise operator.
They could point to Lewis’s inexperience, a stockbroker having problems operating restaurants, while citing experienced franchisees who do well.
One of those is Capital Spring, a lender to the Chois that bought 12 stores in New York from them last December after the brothers couldn’t keep up with the debt load they’d taken on to grow, at Graves’ urging. Daiwon Choi declined to comment for this article.
Jim Ellis, managing director at Capital Spring, is a supporter. Capital Spring recently bought four more stores in Long Island because performance is so strong. “The quality is top-notch and I think the customer experience is better than in self-serve.”
He dismisses the idea that Pinkberry should try self-serve. “I think Pinkberry is differentiated, and as you know in this business, differentiation is the trick,” Ellis says.
A $200,000 sales decline
When Sam Lewis was looking at the brand back in 2009—or to be accurate, Lewis’s wife, a retired schoolteacher, was the initial interested party along with two other business partners who then left the venture—Lewis claims Pinkberry sales reps told him stores at sites he was considering could rack up annual sales over $1 million. Indeed, the franchise disclosure document for the 12 months ending March 2009 listed average unit volumes of $905,519.
The problem for Lewis was two-fold: Pinkberry had just begun franchising, so those numbers included 34 stores in California and 11 in New York, the only two states where the brand had operated.
And by the time the next FDD came out—after he had signed on and for the 12 months ending December 2009, the average dropped $200,000, to $705,049.
His stores fell far short, his counter-claim against Pinkberry says. “I’m for buyer beware. I get that,” says Lewis. “But there’s also case law we can go to that says if you have a material change in your performance you have to accelerate your disclosure. I have objective data that shows these guys knew sales were declining and they were not updating.”
So popular it was called “Crackberry” when stores first opened in 2005, Pinkberry is falling behind, Lewis believes, outpaced by the serve-yourself model in which customers pile on their own toppings—and add heaps to their bill. One of those, Menchie’s, ranked No. 1 on Franchise Times’ Fast and Serious list, which identifies the smartest-growing franchise brands. Pinkberry did not make the list.
Meanwhile, Pinkberry sticks to full-service, won’t add coffee to the menu (because Starbucks doesn’t want the competition, Lewis claims) and in short doesn’t provide the innovation he believes the Schultz name all but guaranteed.
Lewis says his initial focus is to win his counter-claim against Pinkberry, in which he asks for $3 million in damages for each of five counts. “The one thing I’ve learned is I don’t want to win and not monetize my winnings. I want the check in the trophy,” he says.
Lewis relishes the prospect of hearing Schultz be deposed, a matter attorney Brito says is under consideration by the courts, and he indicates he wouldn’t mind bringing down a peg or two such a famous name in business lore.
“I’m a self-serving duplicitous greaseball,” Lewis admits happily, but he doesn’t think Schultz is so hot either. “Who’s worse? Schultz has more money than me, and maybe he could afford to do it right. Starbucks was $23 a share when I started, and now it’s at $73. So he’s not worried about this, and if he really wants to keep it quiet, cut us a check.”
Lewis claims he’d then consider bank-rolling other franchisees who took the same come-on as he. “If I can monetize my claim, I’d underwrite a class-action suit myself. Somebody has to look after the little guy.
“The thing is, I’m not so little. One, I don’t have any other franchise holdings” so he doesn’t worry about attracting scrutiny from other franchisors, “and two, I’m not ruined by this,” Lewis says, then refers once more to Schultz. “He picked on the wrong guy.
Beth Ewen is managing editor of Franchise Times. Send interesting legal and public policy cases to email@example.com.