The Coca-Cola Company Analysis
For my blog, I chose
Coca Cola to discuss and analyze the overall performance of the company. By
applying some economic theories.
Factors that affect the demand curve
Relative goods.
First factor that
affects the demand for Coke is a price of relative goods. There are many
substitutes in the industry of the carbonated drinks such as pepsi, mirinda,
sprite and etc. If the price of the Coca-Cola increases from 4RM to 8RM(Figure1),
whereas the prices of other drinks remain stable, the demand for Coke will
decrease, because consumers are willing to fulfill their needs and wants with
lower price.
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| Figure 1 |
 | |
| Figure 2 |
Income
It is clear that there
is direct relationship between buyer’s income and demand for Cola. If there is
an increase in income, the demand will also go up and vice versa. That is,
because when income increases the purchasing power becomes higher and consumers
are ready to buy more. According to the Table 1, countries with higher income
spend more money on Cola drinks and bring more revenue. Thus, the demand curve shifts to the right (From
D to D1, Figure 2).
 |
| Table 1 |
Government policies.
Government analysis of
the product can decrease the demand of the product. According to the case in
India in 2006, there was a significant declining in the demand, when the
pesticides were found in 54 bottles of Coca-Cola. This occurrence switched
buyer’s preference from Coke to more nutritious juice beverages, thereby
decreasing the demand of Coca-Cola. As the result the demand curve shifts
leftward (from D to D2, Figure 2).
Time
Furthermore, time is also an important factor that
affects the demand e.g. during the summer, the demand of the Cola is sharply
growing because at this time people prefer more carbonated drinks than natural
juices.
Expactations of future price changes
However,
in the cases when consumer expects that there will be a rise in price of
Coca-Cola after 2 weeks later, the demand for Cola will grow now. Thus, demand
curve for this product will shift rightward (from D to D1, Figure2).
Marginal Utility
Coca Cola and Pepsi are selling carbonated drinks
with almost same taste, color, and product differentiation, which makes them perfect
substitutes. Since, Cola and Pepsi are perfect substitutes; price for them is
very sensitive to demand. Furthermore, the price elasticity of demand for this
product is fairly elastic but not perfectly elastic, because of the factors
such as brand loyalty and taste preference of the Coke and Pepsi (Figure 3). In
addition, both companies have positive cross elasticity of demand, as two products
are substitutes. This happens if the price of Cola rises, it makes the quantity
demanded of Pepsi product increase. As a result people will prefer the cheaper
substitute. Therefore, these products are normal goods.
As, Pepsi and Coca Cola are perfect substitutes;
pricing strategy of Pepsi influences the demand of Coca-Cola and vice
versa. Moreover, the indifference curve
of these products would be a straight line with equal slopes (Figure 4). For example, if Coca - Cola decides to reduce
the price of its 1 liter bottle from 6 RM to 4 RM, thereby increasing the
amount of consumption and demand for their goods. The same changes we could
observe by plotting the Price Elasticity of demand (increase from Q1 to Q2 in Figure 3).
 |
| Figure 4 Figure 3 |
This will lead to a proportional decrease in
the consumption of Pepsi. Respectively, to avoid the loss of market share and
profit, Pepsi can offer to sell additional can of Diet Pepsi priced at 2 RM for
free along with 1L bottle. According to figure 5, it will help to increase
Marginal Utility of the Pepsi. Consequently, the quantity of consumed products
will also go up from Q1 to Q2.
 |
| Figure 5 Figure 6 |
Nevertheless, cutting prices for Coke would change
the budget line from B1 to B2, because people incited to consume Coke instead
of Pepsi (figure 6). Therefore, to confront with it and to fill the loss of
consumption, Pepsi should also reduce the price of their 1L bottle. This is
necessary because Pepsi and Coca- Cola are perfect substitutes.
Market Structure
CSD (carbonated soft-drink market) is dominated by
two main firms: Coca-Cola and Pepsi. According to the chart 1, these two
companies have a total market share of 73% in the CSD industry.
It
is clear that CSD market and Coca cola operates in
oligopoly, because oligopoly formed
when just a few firms between them and shares a huge proportion within the
industry. As few firms control the market, they have great market power. With
market power, firms in the oligopoly market are price makers. As firms’ main
goals are to maximize profit, Coca-Cola and PepsiCo have the ability to set
higher prices for their beverages in order to make profit. The following are some of the
characteristics of oligopoly firm:
It
is clear that CSD market and Coca cola operates in
oligopoly, because oligopoly formed
when just a few firms between them and shares a huge proportion within the
industry. As few firms control the market, they have great market power. With
market power, firms in the oligopoly market are price makers. As firms’ main
goals are to maximize profit, Coca-Cola and PepsiCo have the ability to set
higher prices for their beverages in order to make profit. The following are some of the
characteristics of oligopoly firm:
Barriers
Bottling
Network:
Cola and Pepsi concluded franchise
agreements with their Bottling companies which have rights only in certain
geographic areas. These agreements prohibit Bottling companies to produce goods
of their competitors. Furthermore, due to the fact that both
industry giants gained considerable proportion of Bottling companies and high
control over the production, it is very difficult for new companies to find
Bottlers that are willing to produce their products. Another way out of this
situation is to build its own Bottling Company, but it would be very
capital-intensive effort with new efficient capital requirements in 1998 being
$ 75 million.
Advertising
Spend and Brand Name:
The advertising and marketing spend in
the industry is around $ 2.6 billion by Coke via print, radio, television and
internet worldwide (Lovel, 2002 and McWilliams, 2011). This makes it extremely difficult for a new firms to
compete with these giants and gain any visibility. Moreover, Coca-Cola has a
long history of heavy advertising that gave her enormous brand value and
customer loyalty around the world. This fact makes it almost impossible for a
new company to match this scale in this marketplace. 
Retailer Shelf Space (Retail Distribution):
Retailers obtain margins of 15% on Coca Cola's drinks for the fact that they put Cola's goods on the shelves. This makes it difficult for the new entrants to persuade retailers to replace Coke on their goods.
Fear of Retaliation:
To enter into a market with entrenched rival giants like Pepsi and Coke is not easy as it can lead to price wars which affect the new entrants. Despite the fact that Pepsi and Coca-Cola are competitors, they can cooperate in order to displace new firms by predatory price strategy. This pricing strategy means that Coca Cola and Pepsi lower the price artificially and new rivals have to follow. After a period of time, even though they are making loss, Cola and Pepsi companies tend to survive. But new rivals will unable to survive due to the loss and the fact that they could not cover cost of production. Consequently, they force out of the market. The action of increasing price is to protect the industry from being shared by new firms and to maintain the market shares of theirs.
Retailer Shelf Space (Retail Distribution):
Retailers obtain margins of 15% on Coca Cola's drinks for the fact that they put Cola's goods on the shelves. This makes it difficult for the new entrants to persuade retailers to replace Coke on their goods.
Fear of Retaliation:
To enter into a market with entrenched rival giants like Pepsi and Coke is not easy as it can lead to price wars which affect the new entrants. Despite the fact that Pepsi and Coca-Cola are competitors, they can cooperate in order to displace new firms by predatory price strategy. This pricing strategy means that Coca Cola and Pepsi lower the price artificially and new rivals have to follow. After a period of time, even though they are making loss, Cola and Pepsi companies tend to survive. But new rivals will unable to survive due to the loss and the fact that they could not cover cost of production. Consequently, they force out of the market. The action of increasing price is to protect the industry from being shared by new firms and to maintain the market shares of theirs.
Economies of large scale production
Since
1923, Coke had various franchise models all over the world and this had
inspired Coca-Cola to grow rapidly over the 20th century in order to achieve
the maximum Economy of Scale. It is the situation whereby Coke increasing the
scale of production that lead to a lower production cost (Garrratt, Sloman and Wride, 2012). Obviously, the
company is getting increasing returns to scale (increased in input leads to
huge increment on output) from its factors of production. New firms are
deterred as huge initial cost is needed to start-up and they do not have enough
volume of production in order to minimize costs when the production increases. Thus,
competitors cannot compete with other firms who have much lower production
costs. 
Interdependence
Cola and Pepsi
are constantly competing with each other, and the likelihood of price
competition is very high. Since each of them wants to a bigger share of
carbonated industry profits for them. If Cola lowers its price, Pepsi’s demand curve
shifts. Therefore, the way of determining the profit maximizing output is
difficult. Coke can set best price and output, but then Pepsi will react and
repeat Coke's strategy. That will shift
Coca-Cola’s demand curve, changing its best strategy and so on and so on.
Kinked demand curve
The kinked
demand curve model assumes a company might face a dual demand curve for its
product based on the likely reactions of other firms to a change in its price
or another variable.
Two results
derive from the kinked curve(Figure 7):
- If Coca-Cola rises the prices, none of the rivals will not follow suit in order to gain customers from the Coke, as a results the demand of the Coca-Cola may falls
- If Coca-Cola cuts the prices, its rivals will be forced to follow to prevent losing out customers to the Coke.
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| Figure 7 |
Based on the assumptions, Coke will face a kinked
demand curve at the current price and output. As firms will not decide
to reduce price without making a price-output decision with other competing
firms, there is price rigidity in an oligopoly(Garrratt, Sloman and Wride, 2012).
Marginal Revenue Curve
Based on Figure 8, when the quantity is less than 50000 cans, the marginal
revenue curve(MR) will correspond to the shallow part of the average revenue
curve (AR) whereas when the quantity is more than 50000 cans, the MR curve will
correspond to the steep part of the AR curve.
 |
| Figure 8 |
Profit are maximized when MC = MR. If
the MR for coke lies between any point between MC 1 and MC 2, profit maximizing
output (50000 cans) and price (RM 4) is achieved.
Coca-Cola Company is not achieving
allocated efficiency, because the price is always above the MC. Moreover, when
the price is higher than MR, the output will automatically lower than the
minimum ATC and this means that they are not productive efficiently as compared
to perfect competition where P = min ATC. Both the companies will restrict
output to make greater profits. It tells us that, Coke and Pepsi enjoy
supernormal profits in the long run.
Conclusion
Coca-Cola and Pepsi are the most
recognizable carbonated soft drinks around the world. Both the companies
obviously demonstrate how oligopoly occurs in the CSD market. Coca Cola has
created a healthy competition within the CSD industry, where they have to
expand and diversify their products to gain more revenue. This would be more
beneficial to the consumers.
References
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[Accessed 3 January 2014].
McWilliams, J. (2011) Coca-Cola spent more than $2.9
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