Strategic ManagementStrategic Management

Coke & Pepsi: Industry Analysis and Firm Performance

Professor Jeff Dyer BYU, Marriott School

Coke & Pepsi SummaryCoke & Pepsi Summary

This case provides an understanding of the underlying economics of an industry and its relationship to average industry profits. The concentrate industry is, on average, more attractive than bottling.

The reason there is not more entry into the concentrate industry (even though only $30-50 million plant investment to serve the U.S) is largely due to barriers to entry:

– Brand equityBrand equity: cost to keep up with Coke & Pepsi ad spending is roughly $2-4 billion over 10 years (Coke brand valued at $70 billion in 2001; Pepsi brand valued at $6.5 billion).

– Bottling/franchise systemBottling/franchise system: cost of national distribution (29-85 plants) is $1.5-2.5 billion. Must be niche player or be big.

– Limited shelf space, fountains, vending slotsLimited shelf space, fountains, vending slots: cost of slotting allowances estimated at $1-5 million per chain for 3 linear feet (there are 300-400 major chains); fountains may be impossible due to long term contracts/vertical integration.

Professor Jeff Dyer BYU, Marriott School

Coke & Pepsi SummaryCoke & Pepsi Summary

Relative to bottling, the concentrate industry also has:– fewer substitutes (bottlers have aluminum, steel, plastic, glass)– greater bargaining power over suppliers (the raw materials for

concentrate) and buyers (buyers are fragmented).– This all adds up to a more attractive industry structure for

concentrate.

Successful entry will likely require either:– Highly differentiated products (new flavors) in niche markets; or– Circumventing the barriers to entry through alliances (e.g.,

piggybacking on an existing distribution system; e.g., beer; or with an existing brand name; e.g., Virgin Cola).

– Acquisition of existing players (but you will likely pay a premium)

Professor Jeff Dyer

BYU, Marriott School

Sources of Superior ProfitabilitySources of Superior Profitability

Superior Profitability

AttractiveIndustry

Firm Resources& Capabilities

Professor Jeff Dyer

BYU, Marriott School

-0.15

-0.1

-0.05

0

0.05

0.1

0.15

Soft Drinks EthicalDrugs

Tobacco GroceryStores

Publishing IntegratedOil

BasicChemicals

Packaging&

Container

Tire &Runner

Auto &Truck Mfg.

Metals &Mining

Textiles AirTransport

Steel

Historical Profitability of Different Industries (1976-91)

Ret

urn

on

Eq

uit

y M

inu

s C

ost

of

Cap

ital

(R

OE

-Ke)

Professor Jeff Dyer

BYU, Marriott School

““Industry Structure” PerspectiveIndustry Structure” Perspective “Five Forces” Analysis of Competitive Strategy“Five Forces” Analysis of Competitive Strategy

Bargaining Power of Suppliers

Threat ofNew Entrants

Rivalry amongExisting

Competitors

Bargaining Power of Buyers

Threat of Substitutes

Professor Jeff Dyer

BYU, Marriott School

Barriers to EntryBarriers to EntryWhat factors keep potential competitors out?What factors keep potential competitors out?

Scale economies– e.g., aerospace industry

Scope economies– e.g., retailing

Capital requirements (combined with uncertainty)

– e.g., aerospace industry

Switching costs (due to learning, prior investment, network effects)

– e.g., Windows operating system

Access to scarce resources (e.g. inputs, distribution, locations)

– e.g., DeBeers (diamonds), Coke (distribution)

Product Complexity– e.g., supercomputers, microprocessors

Learning Curve– e.g., Honda motorcycles (motors)

Entry deterring regulations– e.g., Tobacco

D

A

B C

Industry

Professor Jeff Dyer

BYU, Marriott School

Threat of SubstitutesThreat of SubstitutesWhat alternatives are available to customersWhat alternatives are available to customers

Direct substitution with similar or the same functionality

– diesel vs gas engines– DirecTV vs cable

A

B C

Industry

Customers

D

Professor Jeff Dyer

BYU, Marriott School

Nature and Focus of RivalryNature and Focus of RivalryWhy industries are more or less “competitive”?Why industries are more or less “competitive”?

Factors– Number of direct competitors &

substitutes Ease of signaling, sharing the market

– Industry growth rates Fast versus slow growth

– Exit barriers e.g., specialized assets, emotional barriers

– Fixed costs e.g. capacity increments

– Lack of product differentiation e.g. differences in functionality, performance

– Switching costs How easy can customers switch?

A

B C

Industry

Competitive rivalry can focus on many factors, including price, quality, technology, features, service, etc.

Professor Jeff Dyer

BYU, Marriott School

Supplier or Buyer PowerSupplier or Buyer PowerHow can my suppliers or customers extract valueHow can my suppliers or customers extract value

Buyer Power Buyer concentration

– Few vs many customers Volume of purchases

– Large vs small purchase decisions

Available alternative products– Competitive products

Threat of backward integration– Ability to become a competitor

Switching costs– Threat of switching suppliers

Supplier Power Supplier concentration

– Few vs many suppliers Supplier volume

– Large vs small purchase decisions

Product differences– Dependence on unique features

Threat of forward integration– Ability to become competitor

Switching costs– Limitations on ability to change

suppliers

Professor Jeff Dyer

BYU, Marriott School

How Industry Structure Influences Profitability

0

10

20

30

40

50

60

70

80

90

100

Farmers5-10% ROE

Frozen Entree Makers 20-25% ROE

Food Retailers 8-12% ROE

Percent ofMarket

Others(>10,000)

ConAgra(1%)

Stouffer(34%)

Swanson(25%)

Campbell(17%)

Green Giant(4%%)

Others (>10)(20%)

Safeway (4%)Kroger(3%)American (2%)

Others (>1000)(90%)

Professor Jeff Dyer

BYU, Marriott School

SUPPLIER POWERHIGH

•strong labor unions•concentrated aircraft makers

THREAT OF ENTRYHIGH

•entrants have cost advantages•moderate capital requirements•little product differentiation •deregulation of governmental barriers

INDUSTRY RIVALRY

HIGH•many companies•little differentiation•excess capacity•high fixed/variable

costs•cyclical demand

THREAT OF SUBSTITUTES

MEDIUM

•Autos/train for short distances

BUYER POWERMEDIUM/HIGHBuyers extremely price sensitiveGood access to informationLow switching costs

Example:

Airlines

Source: J. de la Torre

Professor Jeff Dyer

BYU, Marriott School

SUPPLIER POWERLOW

THREAT OF ENTRYLOW

•economies of scale•capital requirements for R&D and clinical trials (more than $300 million per drug).•product differentiation •control of distribution channels•patent protection

INDUSTRY RIVALRYLOW-MED

•high concentration•product differentiation•patent protection•steady demand growth•no cyclical fluctuations of demand

THREAT OF SUBSTITUTESLOW

No substitutes.(Changing as managed care

encourages generics.)

BUYER POWER LOWPhysician as buyer: Not price sensitive No bargaining power.(Changing with managed care.)

Example:

Pharmaceutic

als

Source: J. de la Torre

Professor Jeff Dyer

BYU, Marriott School

Successful Strategies Should:Successful Strategies Should:

Minimize buyer power– (e.g., build customer loyalty)

Offset supplier power– (e.g., alternative source(s))

Avoid excessive rivalry– (e.g., attack emerging vs entrenched segments)

Raise barriers to entry– (e.g., make preemptive investments)

Reduce the threat of substitution– (e.g., incorporate their benefits)