Business Analysis and Valuation

Chapter 2: Q6

    Coca-Cola and Pepsi are able to retain most of the profits of the industry based on the following five reasons.

    First of all, there’s little rivalry among existing firms in soft drink industry because Coca-Cola and Pepsi are the biggest two firms with large market share. Since there are only two equal-sized players in the soft drink industry, the two companies coordinate their pricing to avoid destructive price competition. They do not compete aggressively on price but compete on non-price dimensions such as innovation of products.

Second, there is also little threat of new entrants in the soft drink industry since the economies of scale is large and new entrants will suffer cost disadvantage in competing with existing firms. Since the existing firms like Coca-Cola and Pepsi have already build their brand image, relationships with customers and dealer network, it is hard for new entrants to earn market share and survive.

Third, there is little threat of substitute products in the soft drink industry since costumers who love soft drinks don’t have willingness to switch into the substitutes such as juice or water. The costumers who love soft drinks are more likely to stick with Coca-Cola or Pepsi so that the other substitute products won’t challenge these two companies.  

Moreover, the bargaining power of buyers is low. Since Pepsi and Coca-Cola almost monopolize the soft drink industry and they coordinate with each other to set price, customers don’t have too much price sensitivity since the prices are almost the same. And the relative bargaining power is also low because customers may not be able to achieve low prices since there’s no alternative product available to the buyer.

Finally, the bargaining power of suppliers is very high because there are only a few companies and few substitutes available in the soft drink industry. Thus, Coca-Cola and Pepsi are able to retain most of the profits of the industry.

Q7

There is a steep learning curve in the airline industry so that size is very important. And also because of the excess capacity in the airline industry, airlines want to keep more loyal customers by offering frequent flier programs. When there are only a few airlines offer frequent flier programs, they may be able to differentiate from other airlines by providing loyal customers with rewards in order to attract or retain more customers. By providing the frequent filter programs, airlines are also able to earn more market shares and build cost leadership in the industry. However, as these programs become ubiquitous, the airlines that originally apply the programs lose the cost leadership and the differentiation from the other competitors. Thus, offering frequent flier programs has only mixed success because as this move becomes ubiquitous, it is no longer a competitive advantage for airlines.