Soft Drink Industry Essay Example for Free

Soft Drink Industry Essay The global soft drink industry is currently expanding quite rapidly. This is due to two major factors. First, markets are expanding rapidly in developing countries and second people are turning toward natural, healthy, and low-calorie drinks. This so called â€Å"new-age† beverages, such as tea-based beverages, is considerably stimulating the development of the soft drink industry and also creating a major challenge to the carbonated beverage market. In part to address this trend, big soft drink companies, like Pepsi and Coke, are striving to become a â€Å"total beverage company† (Seet and Yoffie 95), in which they will serve the comprehensive soft drink market. Generally speaking, the soft drink off-trade value worldwide is gradually rising ever year, from $231,401 in 2001 to $323,031 in 2006 (Global Market Information Database 2007). The biggest market for soft drinks is still North America and Western Europe, which together consumed 43% of gross soft drink volume worldwide in 2006 (Global Market Information Database ‘07). However, the general developing trend for the North America and Western European market is now shrinking in terms of the global market while the Asian market is expanding very rapidly in recent years to now account for 22% of the global market (Global Market Information Database ‘07). The market volumes of Africa, the Middle East, and Australia are comparatively smaller. However, the Middle East, Africa, Eastern Europe, and Asia-pacific markets are â€Å"emerging markets† and attract many companies, ranging from multinationals to niche specialists, who continue to see volume growth well in excess of the market average (Robinson ‘04). With the growth in volume, the average level of profitability of the soft drink industry remains quite high. First, the concentrate producers (CP’s) have become integrated with bottling companies, thereby reducing production costs. The CP’s and bottlers remain profitable through interdependence, sharing promotional and advertising and marketing costs (Seet and Yoffie 95). For example, Coca-Cola has many bottlers in different regions; therefore, their distribution cost is not as high. Furthermore, the CP’s directly negotiate with the suppliers to efficiently manage qualities for their products. In addition, their product line and distribution chain is now more systemic and integrated. Big soft drink producers increasingly franchise bottlers or buy a share from them rather than controlling bottling totally by themselves. This has activated and developed the capital-intensive bottling business. In spite of these trends competition remains intense, such as between distributors and also between new local labels and international drink corporations. Thirdly, the soft drink industry has several channels to sell to consumers such as vending machines, convenience stores, food stores (supermarkets), and national warehouses. For example after a long work-out, one quenches one’s thirst by going to a soft drink vending machine for a Cola. With this distribution channel, soft drinks are sold directly to consumers without bargaining. In 1993, Coca-Cola sold approximately 45% of their soft drinks through vending machine in the Japanese market (Seet and Yoffie 95). Another reason for the level of profitability of the soft drink industry remaining quite high is because this industry has a nearly 47% market share of the non-alcoholic beverages industry (Deichert ‘06). It is also to be noted that some of the soft drink vendors like Coca-Cola and Pepsi have gotten their logos printed on cups at fast food restaurants so that customers are readily reminded of their brands. Big name soft drinks also promote their brands by getting them placed in the middle shelves of stores to attract customers. With the constant expansion of Pepsi products into foreign countries, it may seem challenging for Coca-Cola Enterprises (CCE) to sustain their status in the soft drink industry. The soft drink industry is one of the industries that we consider mild on the degree spectrum of Michael Porter’s five competitive forces. As we look at the first competitive force, the threats of new entrants, we cannot help but consider the high capital investment in building simply a minimum bottling plant – a good amount of $20 million to $30 million is needed (Seet and Yoffie 95). This means that in the category of the threats of new entrants, bottling plant yields a low to medium degree of intensiveness. Also, a Seet and Yoffie states that in 1980, government policy intervened and established the Soft Drink Inter-brand Competition Act to help preserve the right of CP’s to include certain geographical territories (95). Meanwhile, concentrate businesses, a medium to high intensive business, involve very little capital of machinery, overhead and labor (Seet and Yoffie 95). However, it does required some advertising, promotion, market research and advertising (Seet and Yoffie 95) Another factor is that the bargaining power of suppliers of concentrate business is low. When asked, â€Å"Are they easy to be replaced? † The answer is, â€Å"Yes. † The bottling business, on the other hand, has a high bargaining power of suppliers because it is difficult to replace these businesses since they are one of a kind. There is only one Coca-Cola brand, or one Pepsi or one Seven-Up in this world. It would take years to replace these well known and well established products. On the contrary, the bargaining power of buyers of concentrate business is high while for bottling business is medium. For instance, when a concentrate company bargains with a Seven-Up company regarding their supply of recipe, Seven-Up can decide who they choose to supply their recipe to since currently there is only one Seven-Up recipe in the soft drink market. Therefore, the concentrate business has a low bargaining power of buyers. In terms of fear of threat of substitute products, the bottling business is medium. Coke and Pepsi’s franchise agreement â€Å"allowed bottlers to handle the non-cola brands of other concentrate producers (CP’s)† (Seet and Yoffie 95). The bottling companies seem to be submissive to Coke and Pepsi. Lastly, rivalry among competing firms for concentrate business seems to be quite high. There seems to exist quite a few international brands such as RC Cola, Dr. Pepper/Seven-Up, and Cadburry Schweppes, who produce only concentrate. As for the bottling business, the rivalry among competing firms is low because of certain franchise agreement such as one Coca-Cola and Pepsi presented. Seet and Yoffie reports that with the agreement a coke bottler cannot sell RC Cola, but they can distribute Seven-Up as long as they do not carry Sprite (95) Nevertheless the concentrate producers (CP’s) want to vertically integrate into bottling for two main reasons: to make their operation system more efficiency and to cut costs. These factors are interrelated. First, CP’s can make their operating system more efficient through vertical integration. For instance, if two different sectors, such as bottling business or concentration business, are following the same rules, having the same operating system then it is easier for them to work together. Second, CP’s can reduce some costs by vertically integrating. One example is transaction costs. According to Seet and Yoffie, concentrate producers’ most significant costs include advertising, promotion, market research, and bottler relations (95). For example, if CP’s were to cut down their costs from one of these significant costs, they would earn more profits. Moreover, CP’s are usually in charge of market research, product planning and advertising while bottlers play an important role in developing trade and consumer promotions. In order to have a reliable supply, CP’s have to be in direct contact with the bottlers and monitor them, therefore, CP’s need to employ more staff to work on this part. If CP’s can vertically integrate into bottling, they could save more money and in the same time provide quality with quantity. In recent years, the CCE’s sales volume in China has been growing with rates of averaging at 16 to 17 percent annually. At the same time, China’s retail environment has been changing rapidly. According to president of CCE China division, Paul Etchells, although small retail outlets are still prevalent in China, the number of hyper-marts (larger retail outlets) and supermarkets is rocketing. In China, CCE has to keep up with the rising demand for their brands. They have to continuously increase their production plants, employees, and distribution channels. CCE’s market in the US, however, has been slowing down because US consumers are becoming more health-conscious (Stanford ‘07). They are now consuming less carbonated beverages preferring diet sodas (but these are carbonated), coffee, teas, bottled water, and energy drinks. This is a problem for CCE because the majority of CCE’s products are carbonated drinks (Stanford ‘07). Another factor that slows CCE is the rising commodity cost in the US. This cost then will be passed to US consumers. Historically, the Chinese government wanted to protect the domestic soft drink industry by setting up strict regulations on foreign soft drinks companies (Seet and Yoffie 95). Today, the government is more lenient to foreign businesses (Stanford ‘07). Building new manufacturing plants and selling CCE’s products to Chinese consumers is not as hard as it was in the past. However, doing business in China requires CCE to build a relationship with the government. The concept of Guanxi is an important factor that determines the success of a company (Seet and Yoffie 95). CCE’s managers in China spent a lot of time building relationships with the Chinese officials. Since corruption is common in China and CCE is a US based company, the CCE has a disadvantage doing business in China. In the US, on the other hand, business is done more formally. There is not an urgent need to build a relationship with the government. However, an increasing number of consumers in US is concerned with issues relating to sustainability. Therefore, CCE needs to address issues such as water scarcity and pollution. In other words, China’s growing demand and US’ decreasing demand for Coca-Cola products accounted for CCE’s heavy investment in the Chinese market. Coca-cola was introduced to China in the early 1920s and came back after the declaration of the People Republic of China in 1949 through stiff negotiation with the Chinese officials (Seet and Yoffie 95). Since the 1940s, Coca-Cola dominated the U. S. market, which provided the company with financial leverage to expand into internationally and set the tone and the pricing strategy for Pepsi. At that time Pepsi did not have the matching financial power and resources to face any challenges Coca-Cola could introduce in the beverage market (Seet and Yoffie 95). Therefore, Coca-Cola and Pepsi have been fierce rivals in both domestic and international markets. Each company is using a different strategy to remain in control while increasing their net revenue. Coca-Cola entered China before Pepsi did. However, the soft drink market in China can absorb both products due to the fact that China has one fourth of the world’s population, which provides a great deal of demand for both companies to generate profit. Looking at both company’s strategies, one can see that both companies are aiming to become established in the beverage market in China. Moreover, Pepsi seems to be making better acquisition decisions than Coca-Cola; however, the financial figures reveal the victor. The purchases that Pepsi has recently made will take their toll in the form of long term debt, while Coke can concentrate more on increasing market share, as they are much less leveraged than their largest competitor. Coca-cola and Pepsi control 19% and 9% of the Chinese soft-drink market respectively. Coca-Cola operates in 23 bottling plants with total investment of $500 million, while Pepsi operates on 18 plants with total investment of $ 600 million (Seet and Yoffie 95). Coca-Cola is buying their own assets or entering in a joint venture with the Chinese government. For example in China the government owns plants and distribution centers, while Pepsi is pursuing joint ventures and mergers with local companies. The battle for the soft drink industry in China will require a great deal of financial and marketing resources to cover all aspects of competition in local industry. For example, Coca-cola officials are heavily involved with the government, where they spend almost 50% of their time catering and entertaining the government officials to gain more influence in their operation (since the corruption rate in China is high) (Seet and Yoffie 95). Doing so will provide an advantage over Pepsi because the distribution plants need to be close to the local market to be able to provide the market with competitive products that are cheap and of high quality. In comparison with Coke, Pepsi’s strategy of joint ventures with local industry helps them cut costs and pass the savings to the Chinese consumers (Seet and Yoffie 95). Finally, both companies are investing heavily and using their equity to expand and generate revenue in China, which financial figures show that they will not have any financial liquidity in the near future if they continue at the same rate of investment.