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1.0 INTRODUCTION

Microeconomics is the study of industry economics behaviour and the economics behaviour of
other who make choices. In other way, microeconomics deals with supply and demand of
individuals, firms and industries.

In microeconomics, market structures are classified into four categories, that is perfect
competition, monopolistic competition oligopoly and monopoly. These market structures were
categorized based on degree of concentration, entry barriers and product differentiation.

1.1 Oligopoly and Monopolistic Competition

Between perfect competition market structure and monopoly market structure, lies oligopoly and
monopolistic market structure.

Generally, oligopoly is a market structure where it’s dominated by a small number of

firms acting as seller or oligopolists with similar or identical products. In common market, four-
firm concentration ratio is often utilized where total market share of four largest firms in an
industry was measured. Industry with market share of medium concentration (50-80%) is most
likely an oligopoly (Onozaki, Tamotsu, Yanagita, Tatsuo, 2003).

In industrialized countries, oligopolies are found in many sectors or industries such as

cars, petrol, consumer goods and etc. Oligopolists are well aware of action of one another in an
industry. This is due to oligopolies firm are interdependence. Oligopolies firm are typically few
large firms. Decision of an oligopolist are affected by and affecting other oligopolies. In the
other way, oligopoly firm is large enough to take action affecting the market. Hence, their
planning always includes responses of other oligopolies in the industries to aware of the action of
other firm and countermoves their actions. This may lead the industries into collusion; collude to
fix a price of the product in an industry (Onozaki, Tamotsu, Yanagita, Tatsuo, 2003).
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As oligopolies firms are big company and own major percentage in an industry, they tend
to collude to raised or fix the selling price of the product in order to stable certain industry by
control the production of the product which acting the same way as monopoly and also maximize
the profit condition. Oligopolists tend to maximized product by creating an equilibrium
manufacturing condition where marginal revenue equals to marginal costs. As they are the
biggest players in the industry, they are able to set the price of the product which makes them as
price setter rather than price taker. Barrier to entry to concerned industry is very high. Mostly its
involved economic of scale, patterns, knowledge, access to expensive and complex technology
which involved sky high monetary investment and technology with no guarantee that such
investment will giving reward in return. These always discourage side firm from stepping in.
Hence, only few firms which are large enough are able to take the risk to step in and infiltrate the
market. This is due to oligopoly firm able to retain long run to capture abnormal profit (Ruffin,
Roy, 2003).

On the other hand, monopolistic competition is a market structure where there are many
producers with products that can be differentiated. Each firm from monopolistic competition
only had a small percentage of total market in that industry. Each firm act independently; any
action did by other firm will take into consideration into their planning or neither the other way.
This simply due to small percentage of total market hold by a firm will not affect their market
share. Hence, collusion is nearly impossible to occur (Ruffin, Roy, 2003).

In monopolistic competition industry, there is minimum barrier of entry. Which mean

high barrier of entry such as economic of scale, pattern, knowledge and others does not apply
much or none at all comparing to oligopolies competition industry. In long run, it could be free
entry and exit over the industry. These encourage numerous firms to enter the market in order to
gain part of the marker share and earn profit. However should a firm unable to earn any profit or
cover its costs, they can still leave the market without incurring liquidation costs. This is due to
low start up costs, no sunk costs and no exit costs (Guth, Werner, Huck Steffen, 1997).

Unlike oligopolies, monopolistic firm tend to have differentiated product. This

differentiation may be product based and other type of non price competition. Product
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differentiation in product based most likely to involved physical difference which can be
acknowledge physically when observed by buyer, which mean product substitution. Non price
competition will include services and condition accompanying the sales of the product which
play the most important aspects of product differentiation. Other no price competition also
included the product quality, location of sales, brands and packaging. With the product
differentiation, monopolistic firm able to have some control over the product price. On the other
hand, these allow any firm in monopolistic competition has some degree of monopoly power
over an industry whereby purely competitive firm does not possess. A monopolistic firm may
increase the prices without worried of losing all its customers. Price lowering by its competitor
will also not trigger any potential price war (Guth, Werner, Huck Steffen, 1997).

Buyers in monopolistic competition industry know exactly what being offered by various
firms and where product is being sold. They also have detail information of the product sold and
firm including differentiating characteristic of goods, prices and profitability of the firm (Guth,
Werner, Huck Steffen, 1997).
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2.0 BEVERAGE INDUSTRY OF UNITED STATE

Beverage Industry can be divided into 8 categories, which are carbonated soft drink, bottled
water, fruit beverage, sport drinks, ready to drink (RTD) tea, flavoured and enhanced water,
energy drink and ready to drink (RTD) coffee with total sales volume of 30553.7millions
gallons. Table below show sales volume of each category with market share in volume at year
2007.

Categories Millions of Gallons Market Share in Volume

Carbonated Soft Drink 14707.4 48.1%
Bottled Water 8822.4 29.9%
Fruit Beverage 3899.5 12.8%
Sport Drinks 1355.1 4.4%
RTD Tea 875.1 2.9%
Flavoured and Enhanced Water 546.5 1.8%
Energy Drinks 302.6 1.0%
RTD Coffee 45.1 0.1%
Total 30553.7 100.0%

2.1 Carbonated Soft Drinks in Beverage Industry of United State

Carbonated soft drinks are the core if beverage industry in United State (US) with market shares
of 48.1 in volume. The most popular and majorly sold carbonated soft drink is Soda or Cola
based. The major firms in this industry are Coca-Cola, PepsiCo, and Cadbury Schweppes. Each
of the firm has more than just 1 product in the supermarket shelf. Table below illustrate Market
share of the big 3 carbonated soft drink maker in its category (Oligopoly Watch).

Major firms Market Share Brands

Coca-Cola 43.3% Coke, Sprite, Fanta, Mellow Yello, Vault & Vault, Barq’ and
etc
PepsiCo 31.3% Pepsi, Mountain Dew, Sierra Mist, Mug and Etc
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Cadbury 15.2% 7-up, Dr. Pepper, Schweppes, A&W, Canada Dry, Sunkist,
Schweppes and etc

Market size of carbonated soft drink industry is huge. Total market value of carbonated
reached US$307.2 billion in 2005 and forecast to each market value of US$367.1 billion in year
2009. Based on State of the Industry ’08 report from Beverage World, total amount of
carbonated soft drink sold in year 2007 is 14707.4 millions of gallons which equal to 55709.85
litres. This show that carbonated soft drink industry is lucrative with a potential of high profit.
However, carbonated drink market in US is mature. The increase of the market value is
depending on the increase of the population (Beverage World).

The big 3 carbonated soft drink maker are currently in a stable oligopoly condition where
there are only small changes or increment and had control 90% of the market with more than 20
differentiated product for different individual demand. Table below show top 20 carbonated soft
drink brand in US at year 2007 (Beverage World).

At year 2007, carbonated soft drink had share in volume of 48.1% over the whole
beverage industry in US. However the trend seems to be decreasing slowly with the decreasing
in carbonated soft drink consumption in consumer market. This is due to ongoing issue of
obesity and diabetes (Beverage World).

In carbonated soft drink industry, there are little new firm that enter to gain a piece of a
big cake. This is due to difficulty faced by new firm to compete with the big three to establish
new brand names, distribution channels and high capital investment. The economics of scale
would be the biggest barrier for new firm to establish and penetrate this market, furthermore with
significant loss with fixed cost and contract binding. Hence, the big three would be at ease
position without any competitive pressure from new firm
Brand Rank Millions of Gallons 2007 Growth Market Share
Coca-Cola Classic 1 2562.5 -3.0% 17.4%
Pepsi Cola 2 1668.7 -4.8% 11.3%
Diet Coke 3 1517.2 +0.5% 10.3%
Mountain Dew 4 1001.8 -0.9% 6.8%
Dr Pepper 5 878.9 -0.2% 6.0%
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Diet Pepsi 6 856.8 -1.8% 5.8%

Sprite 7 829.7 -4.0% 5.6%
Diet Mountain Dew 8 236.3 +7.4% 1.6%
Fanta 9 233.5 -1.0% 1.6%
Diet Dr. Pepper 10 231.1 +3.5% 1.6%
Sierra Mist 11 217.2 -0.5% 1.5%
Caffeine Free Diet Coke 12 203.0 -7.0% 1.4%
7up 13 156.7 -5.6% 1.1%
Barq’ 14 156.6 -2.0% 1.1%
Sunkist 15 154.0 +2.9% 1.0%
Coke Zero 16 141.7 +82.5% 1.0%
Canada Dry 17 126.5 +4.4% 0.9%
Caffeine Free Diet Pepsi 18 126.4 -7.8% 0.9%
Cherry Coca-Cola 19 112.2 -1.0% 0.8%
Mug 20 104.8 +3.4% 0.7%

2.2 Oligopolistic of PepsiCo

PepsiCo is placed second for soft drink Company and first place for snack food company in the
world. PepsiCo engaged their business in many industries. The four main businesses in
consumerable goods are soft drink, fresh fruit juice, snacks and breakfast cereal and related food.
PepsiCo rank 50th place in Fortune 500 in year 2010 with revenue of 43,232.0 million dollars;
leaving its rivalry competitor, Coca-cola at the back which placed at 72th with revenue of
30,990.0 million dollars (CNN Money).

PepsiCo remain in oligopolies competition industry mainly due to unusual high profit
from it. Carbonated soft drink industry is an oligopolies competition industry with the big 3,
Coca-cola, PepsiCo and Cadbury Schweppes as the biggest player. Market value of carbonated
soft drink industry is very high with few hundred millions of dollars. PepsiCo can earn
abnormally high revenue from carbonated soft drink industry and capture high market share
(Oligopoly Watch).

In order to obtain maximum revenue from carbonated soft drink industry, PepsiCo enjoy
production and distribution at significant low cost advantages in reaps the economy of scale by
large scale of production. PepsiCo was started back to year 1898. They had the production and
manufacturing technology, experience in keeping maximum production yield and operation cost
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down which built from years of research, on job experience gain and huge capital. In
distribution, PepsiCo had setup several plants around the US for production and bottling. This
had saved the cost for PepsiCo to distribute the product in US. Being one of the big three player
in carbonated soft drink industry, PepsiCo have the bargaining power over the supplier and
perpetuate themselves through predatory practices. Practices such as bargain lower prices from
suppliers and exclusive dealerships establishment. These allow PepsiCo to have lower cost in
raw material and less process fees to be paid and boost up the revenue (Deichert, Meghan,
Ellenbecker, Meghan, Klehr, Emily, Pesarchick, Leslie, Ziegler, Kelly, 2006).

PepsiCo do not have to worry of new entrants into carbonated soft drink industry.
Products in carbonated soft drink, an oligopoly competition market tend to have high degree of
product differentiation. Hence, it is difficult to introduce new product into the market unless
large investment need to be made by new firm. This is to overcome consumer reluctance to try
new product over an established one. Hence, it reduces and discourages new firms to enter the
market as market size of carbonated soft drink is huge (Deichert, Meghan, Ellenbecker, Meghan,
Klehr, Emily, Pesarchick, Leslie, Ziegler, Kelly, 2006).

On the other hand, PepsiCo able to set the price of their product in the market. However,
the set price will also affect the reaction of the competitor over the lower price. As there been a
cola war between Coca-Cola and PepsiCo, the price of the product always set to the lowest as
possible in order to gain more market share as possible over the competitor. These make PepsiCo
as a price taker and crated price war. Such action had also created economy of scale and prevents
any new entrant.

With huge capital, Pepsi can also drive out small competitors. With increase in market
share and low pricing, small competitor that unable to withstand the challenge end to withdraw.
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3.0 PepsiCo’S COMPETITIVE STRATEGIES

3.1 Pricing

PepsiCo had resorted pricing discrimination strategies to maximize the value of customer
demands. There are two types of discrimination strategies which are direct and indirect price
discrimination. In direct price discrimination, PepsiCo sell their product with different price
based on location and the purchase power of customer as per concerned location (Hays,
Constange, 1998).

At places with higher purchasing power, PepsiCo tend to sell their product slightly
higher. While over the places with lower purchasing power, PepsiCo tend to sell their product
slightly lower. This is to by maximized customer demand by maximized customer purchasing
power. Places here can refer to neighbourhoods, cities, towns, states or even country. The higher
or lower the purchasing power is always affect directly by the income of the customer.

At places where customer with higher income and higher purchasing power, customer
will not border to buy a can of Pepsi with slightly higher in price. This is due to they are capable
to pay for the extra price and such extra price does not bring them any burden to pay for it.
Reducing in pricing certainly will not help to increase the demand and also the sales volume of
the product. Hence, the demands of the customers remain the same. While at places with lower
income, they tend to have lower purchasing power. For people with lower income, they always
fulfil the basic need than want. In order to increase their demand, PepsiCo had lower their selling
price but still above their marginal cost. In this strategy, PepsiCo had reduced their profit margin
but increase the sales volume by increase the demand. With the lower price, people with lower
purchasing power will increase as the product had become more affordable.

In direct price discrimination strategy is offering lower in price by creating bundle offer
to stores and restaurant. By offering lower in price by bundling, it may increase the sales and
obtain better shelf space from retailer. This will be an important strategy to make PepsiCo to
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claim the share in fountain drink segment for example fast food restaurant which currently Coca-
cola own major share (McKelvey, Steve M, 2006).

With such action of pricing, competitor tend to follow them same strategies as the nature
of oligopolies, Hence, PepsiCo’s strategy will affect the reaction of the competitor, Coca-Cola
to react with PepsiCo strategy which lead to price war (McKelvey, Steve M, 2006).

3.2 Advertising and Product Differentiation

As PepsiCo aware that competing in pricing with Coca-Cola will not bring profit to each other,
PepsiCo will then invest heavily in advertising to create awareness and increase its market share.
As carbonated soft drink had been conquered by Coca-Cola, PepsiCo had been advertising hard
to overcome the treat of Coca-Cola and increase its market share. PepsiCo also active involved in
sport and event sponsorship such as NFL (Dube, Jean-Pierre, 2004).

PepsiCo had invested heavily to advertise and promote Pepsi as the next generation drink which
targeting generation X, aged from 18 to 29 by create awareness of consumer on the blue colour
represent eternal youthfulness and openness. PepsiCo advertising campaign always involve super
star which represent young and active such as “The Next Generation” and “Joy of Pepsi” which
involve super star, Britney Spear. This product differentiation had separated the market into
younger drinker and old drinker. The demand of Pepsi from young generation will continue to
increase. For long run, this will eliminate Coca-Cola from the market as the customer from older
market will reduce as time come. On the other hand, the demand of Coco-Cola will reduce while
the demand of PepsiCo will increase. Similar phenomenon also observed over the car maker
between BMW and Mercedes with BMW is for the young generation (Golan, Amos, Karp,
Larry S., Perloff, Jeffrey M., 1999).

3.3 Brand Loyalty

From historical experience, carbonated soft drink consumer is brand loyal group with extremely
dedicated to particular product and rarely purchase other varieties despite that they have zero
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switching cost from one product to another. However, they will lose the taste and the experience
of having PepsiCo product. Hence, PepsiCo recognize the consumer wants and needs. That leads
to Pepsi to have more sugar which bring more sweetness compare to Coca-cola. Also, PepsiCo
had developed and maintain a superior brand image among the consumer (Brand Loyalty).

By understanding what consumer wants and need, PepsiCo also introducing low sugar level
version of Pepsi with Diet Pepsi. With the increasing of global awareness on healthy and demand
on healthier product, Diet Pepsi able to replace classic Pepsi in its market by producing similar
product with similar satisfaction to consumers (Brand Loyalty).

PepsiCo had done a great job in brand loyalty, hence placing itself with its product in higher
ranking in brand loyalty ranking in year 2004 compare to the other big 2, Coca-Cola and
Cadbury Schweppes. Table below show the loyalty ranking of the big 3’s product in year 2004
(Brand Loyalty).

Ranking in Year 2004 Brand Ranking in Year 2003

17 Diet Pepsi 31
36 Diet Coke 47
53 Pepsi 61
140 Coca-Cola 129
186 Mountain Dew 168
192 7up 170
193 Dr Pepper 176
201 Diet 7up 108
203 Diet Dr Pepper 133

3.4 Distribution Channel

PepsiCo had done a great job in distribution. Pepsi had developed a franchise system which is
backbone of success along with a great entrepunership spirit. Pepsi’s franchise system and
distributors is credited for bring Pepsi from a 7,968 gallons of soda sold in 1903 to nearly 5
billion gallons in the year of 1997. PepsiCo had also distributed its product globally. For such as
Pepsi, PepsiCo had local bottled company at oversea to help PepsiCo to bottled their product and
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distribute locally. Hence, we able to find Pepsi in any store, any place, any country in the world
(McAfee, Preston, 2003).

3.5 Acquisition of Smaller Firm

As the carbonated soft drink is a mature industry, big player like PepsiCo tend to acquisition of
smaller firm in increase its market share in carbonated soft drink industry. On the other hand as
the beverage industry began to switch to healthier drinking product, PepsiCo also undergoes
acquisition of other firm in other beverage category such as Tropicana in year 1998. PepsiCo
also expand its business to food industry by acquisition of other firm and internationally such as
Quaker Foods in 2001, Walkers Crisps and Smith Crisps ion 1989 and mores. This will also
increase the revenue of PepsiCo from other industry (McAfee, Preston, 2003).

(Total words: 3375)

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REFERENCE

Beverage World, State of the Industry Report ’08, www.beverageworld.com

Brand Loyalty, 2004, http://www.brandweek.com/bw/esearch/article_display.jsp?vnu_

content_id=1000683707

CNN Money, The Fortune 500, http://money.cnn.com/magazines/fortune/fortune500/

2010/full_list/

Deichert, Meghan, Ellenbecker, Meghan, Klehr, Emily, Pesarchick, Leslie, Ziegler, Kelly, 2006,
Industry Analysis: Soft Drinks, Strategic Management in A Global Contect, pp 1-23

Dube, Jean-Pierre, 2004, Product Differentiation and Merges in the Carbonated Soft Drink
Industry, School of Business, University of Chicago, pp. 1-25

Golan, Amos, Karp, Larry S., Perloff, Jeffrey M., 1999, Estimating Coke and Pepsi’s Price and
Advertising Strategies, Department of Agricultural and Resources Economics, University of
Carlifonia, Berkeley and Giannini Foundation, pp. 1-44

Guth, Werner, Huck Steffen, 1997, A new justification of monopolistic competition, Economics
Letters 57, pp. 177-182

Hays, Constange, 1998, PepsiCo Accuses Coca-Cola of Unfair Business Practices in Lawsuit,
The New Your Times.

McAfee, Preston, 2003, Pepsi’s Strategy in the Carbonated Soft Drinks Market, McCombs
School of Business, The University of Texas at Austin, pp. 2-13

McKelvey, Steve M, 2006, Coca-Cola Vs. PepsiCo – A “Super” Battleground for the Cola
Wars”, Sport Marketing Quaterly 15, pp. 114-123
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Oligopoly Watch, Oligopoly brief: Pepsico, http://www.oligopolywatch.com/2003/12/19.html

Oligopoly Watch, Industry Brief, Beverage, http://www.oligopolywatch.com/2003/04/21.html

Onozaki, Tamotsu, Yanagita, Tatsuo, 2003, Monopoly, Oligopoly, and the Invisible Hand,
Chaos, Solitons and Fractuals 18, pp. 537-547

Ruffin, Roy, 2003, Oligopoly and trade: what, how much, and from whom, Journal of
International Economics 60, pp 315-335