CASE STUDY OF SOFT DRINK DEMAND ESTIMATION

Demand can be estimated with experimental data, time-series data, or cross-section data. Sara Lee
Corporation generates experimental data in test stores where the effect of an NFL-licensed
Carolina Panthers logo on Champion sweatshirt sales can be carefully examined. Demand
forecasts usually rely on time-series data. In contrast, cross-section data is appear in Table 1. Soft
drink consumption in cans per capita per year is related to six-pack price, income per capita, and
mean temperature across the 48 contiguous in the United States.

Table 1
6-Pack $ Income Mean Temp.
Cans/Capita/Yr Price $/Capita °F
Alabama 200 2.19 13 66
Arizona 150 1.99 17 62
Arkansas 237 1.93 11 63
California 135 2.59 25 56
Colorado 121 2.29 19 52
Connecticut 118 2.49 27 50
Delaware 217 1.99 28 52
Florida 242 2.29 18 72
Georgia 295 1.89 14 64
Idaho 85 2.39 16 46
Illinois 114 2.35 24 52
Indiana 184 2.19 20 52
Iowa 104 2.21 16 50
Kansas 143 2.17 17 56
Kentucky 230 2.05 13 56
Louisiana 269 1.97 15 69
Maine 111 2.19 16 41
Maryland 217 2.11 21 54
Massachusetts 114 2.29 22 47
Michigan 108 2.25 21 47
Minnesota 108 2.31 18 41
Mississippi 248 1.98 10 65
Missouri 203 1.94 19 57
Montan 77 2.31 19 44
Nebraska 97 2.28 16 49
Nevada 166 2.19 24 48
New Hampshire 177 2.27 18 35
New Jersey 143 2.31 24 54
New Mexico 157 2.17 15 56
New York 111 2.43 25 48
North Carolina 330 1.89 13 59
North Dakota 63 2.33 14 39
Ohio 165 2.21 22 51
Oklahoma 184 2.19 16 82
Oregon 68 2.25 19 51
Pennsylvania 121 2.31 20 50
Rohde Island 138 2.23 20 50
South Carolina 237 1.93 12 65
South Dakota 95 2.34 13 45
Tennessee 236 2.19 13 60
Texas 222 2.08 17 69
Utah 100 2.37 16 50
Vermont 64 2.36 16 44
Virginia 270 2.04 16 58
Washington 77 2.19 20 49
West Virginia 144 2.11 15 55
Wisconsin 97 2.38 19 46
Wyoming 102 2.31 19 46
Total 7594 105.72 861 2573
Mean 158.2083333 2.2025 17.9375 53.60416667
QUESTION 1
Estimate the demand for soft drinks using a multiple regression program available on your
computer.

Dependent Variable: Y
Method: Least Squares
Date: 04/07/18 Time: 23:11
Sample: 1 48
Included observations: 48

Variable Coefficient Std. Error t-Statistic Prob.

C 514.2669 113.3315 4.537722 0.0000

P -242.9708 43.52628 -5.582162 0.0000
I 1.224164 1.522613 0.803989 0.4257
M 2.931228 0.711458 4.120027 0.0002

R-squared 0.698024 Mean dependent var 158.2083

Adjusted R-squared 0.677435 S.D. dependent var 67.36719
S.E. of regression 38.26108 Akaike info criterion 10.20640
Sum squared resid 64412.06 Schwarz criterion 10.36233
Log likelihood -240.9536 Hannan-Quinn criter. 10.26533
F-statistic 33.90231 Durbin-Watson stat 1.980543
Prob(F-statistic) 0.000000

Linear Demand Estimation or soft drink:

QD = 514.267 – 242.971P + 1.224I – 2.931M

R2 = 0.698 SE = 38.261

t-Statistic:

P = -5.582

I = 0.804

M = 4.120
QUESTION 2

Interpret the coefficients and calculate the price elasticity of soft drink demand.

For the linear model, the price elasticity of demand:

(dQ/dP) × (Mean P/Mean Q) = −242.97 x ($2.2025/158.2083) = −3.38

Mean P =105.72 / 48
= 2.2025
Mean Q = 7594 / 48
= 158.2083
dQ/dP = -242.97

Price Elasticity ED = (dQ/dP) × (Mean P/Mean Q)

ED = (-242.97) / (2.2025 / 158.2083)

ED = (- 3.38)

Therefore, the demand for soft drink is price inelastic. This means demand for soft drinks is
insensitive to price change. A small increase or decrease in price will not drastically change
consumers' soft drink purchases, they will still buy the soft drinks.
QUESTION 3

Omit price from the regression equation and observe the bias introduced into the parameter
estimate for income.

Dependent Variable: Y
Method: Least Squares
Date: 04/07/18 Time: 23:53
Sample: 1 48
Included observations: 48

Variable Coefficient Std. Error t-Statistic Prob.

C -56.61441 63.11655 -0.896982 0.3745

I -2.054390 1.815498 -1.131584 0.2638
M 4.695034 0.823817 5.699123 0.0000

R-squared 0.484166 Mean dependent var 158.2083

Adjusted R-squared 0.461240 S.D. dependent var 67.36719
S.E. of regression 49.44768 Akaike info criterion 10.70017
Sum squared resid 110028.3 Schwarz criterion 10.81712
Log likelihood -253.8041 Hannan-Quinn criter. 10.74436
F-statistic 21.11872 Durbin-Watson stat 2.089038
Prob(F-statistic) 0.000000

When the independent variable of Price is removed from the equation, R2 drops from 0.698 to
0.484. Thus the strength of correlation falls under moderate range (0.4 to 0.6). The variables have
a low association with the dependent variable as only 48% in quantity demanded are explained by
the independent variables.
QUESTION 4
Now omit both price and temperature from the regression equation. Should a marketing plan for
soft drinks be designed that relocates most canned drink machines into low – income
neighborhoods? Why or why not?

Dependent Variable: Y
Method: Least Squares
Date: 04/08/18 Time: 00:00
Sample: 1 48
Included observations: 48

Variable Coefficient Std. Error t-Statistic Prob.

C 254.5629 41.09082 6.195129 0.0000

I -5.371683 2.231815 -2.406867 0.0202

R-squared 0.111849 Mean dependent var 158.2083

Adjusted R-squared 0.092542 S.D. dependent var 67.36719
S.E. of regression 64.17440 Akaike info criterion 11.20186
Sum squared resid 189444.3 Schwarz criterion 11.27983
Log likelihood -266.8446 Hannan-Quinn criter. 11.23132
F-statistic 5.793010 Durbin-Watson stat 2.313418
Prob(F-statistic) 0.020162

Omitting both price and temperature resulted a linear model as follows:

QD = 254.563 – 5.372I
R2 = 0.112
SE = 64.174

No, a marketing plan for soft drinks should not be designed that relocates most canned drink
machines into low-income neighborhoods. The regression coefficient on income has been biased
downward by the omission of price and temperature enough to make an insignificant factor appear
negative and significant in its effect on demand. This illustrates the critical importance of using
analytical reasoning and demand theory to correctly specify a regression model.