Soft Drinks- Case Analysis

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In the years between 1975 and 1993, the Coca Cola Company posted an average return

on equity of 30.5%. Similarly, PepsiCo Inc. recorded an average return on equity of

21.2%. Although these figures likely include the return form non-soft drink operations

(it's difficult to tell from the available information in the Yoffee and Foley case), it is

clear that the soft drink industry is extremely profitable--profitable, that is, for

concentrate producers such as Coke and Pepsi.

For other members of the soft drink supply chain, the soft drink industry is not nearly as

attractive. Pretax profit for a typical bottler, by way of example, is less than one-third of

that of a standard concentrate producer. This discrepancy between the profitability of

concentrate producers and that of bottling companies results from the competitive

structure of the two separate industries.

Concentrate Providers: A Structural Analysis

Using a basic structural analysis of the market for soft-drink concentrate, it is easy to see

why the industry is so profitable.

First, there are few direct competitors within this

market: Coke and Pepsi make up 72% of the entire market, with only a handful of

additional providers making up the remaining 28%. Furthermore, competition among

these companies is limited by strong brand recognition, especially for Coke and Pepsi.

Because the major players can rely on their strong, differentiated brands, they are able to

price their products substantially above long-term average costs1.

Secondly, the basic cost structure of the industry - low fixed costs relative to high

variable costs - helps concentrate producers avoid descending into stiff price

competition2. The tendency for competing on price is further limited by Coke and

Pepsi's near-century of competition - a history that has allowed them to learn how to

avoid destroying profits in mutually damaging price wars.

Third, concentrate providers...