Key Takeaways:

• RedNote's separation of its domestic business from the rest of the world highlights growing credibility and data security hurdles Chinese apps face overseas
• Texas Chicken aims to open 600 stores in China, even as such second-tier fast-food brands often struggle against established giants like KFC

image credit: Bamboo Works

We're seeing a fascinating divergence in how businesses navigate the border between China and the rest of the world. As recently reported by Wired, the social media sensation RedNote — also known as Xiaohongshu in China — is taking steps to separate its China business from its global operations, repeating a strategy we've seen from other Chinese internet majors facing geopolitical pressure. On the other side, Texas Chicken, a second-tier fast-food brand previously known as Church's Fried Chicken, recently announced ambitious plans to enter China and quickly open hundreds of stores.

These two developments underscore the immense complexities of cross-border expansion, whether it's Chinese social media platforms trying to reach the world, or Western brands trying to capture a slice of China's 1.4 billion consumers.

RedNote's recent move to carve out its global operations is primarily driven by politics and data security concerns. We've increasingly seen this theme among China's internet companies. The biggest name in that regard is TikTok, the international arm of China's ByteDance, which sold off its U.S. operations to a group dominated by American investors after coming under pressure from Washington. Others are taking similar steps, like PDD (NASDAQ:PDD) with its Temu international site, and Tencent (OTC:TCTZF) (OTC:TCEHY) (0700.HK), whose popular WeChat has different systems for domestic and global users.

These social media platforms have accumulated millions of users in the West, raising the issue of where all the information about individuals — especially in the U.S. — ends up being stored. The fundamental question is whether a Chinese entity or the government could force these platforms to provide data. To go overseas, addressing cybersecurity issues and registering a legal entity outside China is just the first step. But there is a second side to this story besides information security, namely, credibility. A decade ago, when Tencent tried to launch WeChat in the U.S., people simply didn't want to give their information to a Chinese company. While younger people who live on social media might be oblivious to data risks, foreign governments and regulators aren't. They're going to create issues if the fundamental risks aren't addressed.

We believe credibility isn't going to magically result from telling the world you're operating from Singapore or elsewhere outside China. Given the recent Manus fiasco where a company outside China was told by the Chinese government to undo an M&A deal, simply operating abroad doesn't create much comfort. For RedNote to truly expand in the U.S., it would have to do something similar to TikTok, ensuring U.S. citizen data doesn't end up outside the country.

The longer-term implication of this strategy is clear: we're heading towards a reality where China ends up as an island for user-generated content. Platforms like Facebook (NASDAQ:META) and other U.S. apps aren't available in China at all. While Beijing would likely be happy if Western influences couldn't get in but Chinese content could invade the world, foreign countries don't want a flood of Chinese content when they aren't even sure if it's coming from real people, bots, or is propaganda.

A second-tier chicken chain's big Chinese gamble

On a slightly lighter note, Texas Chicken announced in April that it signed a deal with a local partner to bring its brand to China — the land where rival KFC has found huge success. The company boasts big plans, aiming to open its first store in Shanghai this summer and eventually reach 600 stores in the market.

We think this sounds highly ambitious. Second-tier fast-food brands typically have a hard time in markets like China, which are quite different from what they're used to in the U.S. Take Popeyes, for example. The Louisiana fried chicken chain has been trying to make it in China for almost 25 years. They got in during the early 2000s, pulled out, and are trying again now with a few shops in Shanghai. But they don't seem to be achieving any major penetration. Meanwhile, KFC is historically way ahead of everyone else and is managed very well by Yum China (YUMC.US; 9987.HK), which also operates Pizza Hut.

However, companies keep throwing out big numbers because of China's 1.4 billion consumers and the relatively strong growth of the franchise model. The franchising wave in China is pretty new, really dating back only the last five or six years. If a foreign brand finds a good partner who knows how the system works, finding franchisees isn't that difficult. Many Chinese people are entrepreneurs in their guts, perfectly willing to take a risk and work very hard in the hope of becoming financially successful quickly.

Chinese homegrown chains like Mixue (2097.HK) and Luckin (LKNCY.US) are famous for massive, rapid expansion through aggressive franchising. In the West, chains franchise much more cautiously. But there's a big difference between a coffee shop and a fried chicken restaurant. You don't go to a Luckin shop to sit down and enjoy coffee as you do at Starbucks (SBUX.US). You buy your coffee online, pick it up, and you're on your way. For a chicken business competing with KFC, you need an actual restaurant. The financial implications for investment, upkeep, and reinvestment are much more serious.

When it comes to food and beverage, discretionary spending goes through boom periods until something new comes to town and customers migrate. We believe we're eventually going to see a correction to these massive franchise openings. It's easy for people to think they can make money easily when everything is going well, but franchising requires continuous investment to keep facilities attractive and up to date. If a franchisee isn't in an optimum location, life will become difficult. We've already seen this correction in the hospitality sector, where hotel chains like GreenTree (GHG.US) went the franchise route and eventually threw out a number of franchisees who fell behind, failed to upgrade, and weren't getting enough revenue. At some point, we're going to see a number of these food and beverage franchisees dropping out too. Given these structural challenges, we remain highly skeptical that many of these rapidly expanding franchisers will be able to keep their scale. When it comes to Texas Chicken, we'll be very surprised if they reach that 600-store milestone.

Benzinga Disclaimer: This article is from an unpaid external contributor. It does not represent Benzinga’s reporting and has not been edited for content or accuracy.