This article contains speculation. Please keep that in mind when reading what is here.
Freddy Fazbear's Pizza was once a popular restaurant for adults and children alike. However, due to a number of incidents including the kidnapping and implied murder of five children by a man wearing an empty animatronic suit, sanctions by the Health Department over the numerous reports of dirtiness, and "The Bite of '87", the pizzeria has fallen on hard times. Freddy Fazbear's Pizza is set to close by the end of the year, as potential buyers do not want to be associated with the tainted reputation of the company.
The four mascots - Freddy Fazbear, Bonnie the Bunny, Chica the Chicken, and Foxy the Pirate had a particularly foul odor and what appeared to be "blood and mucus" around their eyes and mouths, which concerned parents had interpreted as "reanimated carcasses".
Phone Guy remarks in Night 1's phone message that the animatronics haven't been cleaned in their 20+ years of service, which would explain the nasty odor. The stench could also be attributed to a popular theory that the missing children were stuffed into the animatronic suits after they were killed and that their decomposing bodies were producing the repulsive smell. Supposedly, due to the risk of their servos locking up from disuse, the animatronics have been left in a "free-roaming mode" at night over the years. They used to be able to roam freely during the day as well, but The Bite of '87 caused the pizzeria to put a stop to this.
It was revealed that Phone Guy disappeared sometime before the events of the game, as heard during the phone call on Night 4 and is implied to have been stuffed into a suit and/or killed. There are many theories as to what happened to Phone Guy after the call cuts out, but one can be certain that he was attacked. There is also speculation about a more complicated and twisted version of the plot, due to the phone message heard during Night 5.