How does the relationship between the concentrate producers and the

bottlers evolve?

Bottlers are mainly in charge of manufacture and distribution of beverages.

They purchased concentrate, added carbonated water and sweeteners,
bottled or canned the resulting CSD product, and delivered it to customer
accounts. Concentrate producers supported bottlers’ sales, setting standards,
suggesting operational improvements, and negotiating with bottlers’ major
suppliers.

First stage:
Coke: 1978 Renegotiation and Coca-Cola Enterprises (CCE)
The original Coca-Cola franchise agreement, written in 1899, was a fixed-price
contract that did not provide for renegotiation. In response to the threats from
“Pepsi Challenge”, Coke renegotiated its franchise bottling contract to obtain
greater flexibility in pricing concentrate and syrups in 1978. Coke’s bottlers
approved this contract only after Coke agreed to link concentrate price
changes to the CPI, to adjust the price to reflect any cost savings associated
with ingredient changes, and to supply unsweetened concentrate to bottlers
that preferred to buy their own sweetener on the open market. Coke struggled
to persuade bottlers to cooperate in marketing and promotion programs, to
upgrade plant and equipment, and to support new product launches. In
1980s, Coke began buying up poorly managed bottlers and reselling them to
better-performing bottlers. Refranchising allowed Coke’s larger bottlers to
expand outside their traditionally exclusive geographic territories. In 1986,
established an independent bottling subsidiary, Coca-Cola Enterprises (CCE),
which functioned as Coke’s first “anchor bottler”. By 2004, CCE was Coke’s
largest bottler.
Pepsi: The formation of Pepsi Bottling Group (PBG)
In 1940s, Pepsi relied on small local bottlers that competed with wealthy,
established Coke franchisees. In 1960s, Pepsi worked with its bottlers to
modernize plants and to improve store delivery service. By 1970, Pepsi
bottlers were generally larger than their Coke counter parts, and the
concentrate price Pepsi charged its bottlers was 20% lower than that Coke
charged. However, in 1970s, Pepsi charged the same concentrate price as
Coke did. To overcome bottler opposition, Pepsi promised to spend this extra
income on advertising and promotion. In 1980s, Pepsi adopted Coke’s anchor
bottler model. In 1999, the Pepsi Bottling Group (PBG) went public.

Second Stage:
Coke: 1987 Master Bottler Contract
Coke had the right to determine concentrate price ( established a maximum
price and adjusted prices quarterly according to changes in sweetener pricing)
and had no legal obligation to assist bottlers with advertising and marketing.
Pepsi: Master Bottling Agreement
Pepsi granted the bottler perpetual rights to distribute Pepsi’s CSD products
but required it to purchase raw materials from Pepsi at prices, and on terms
and conditions, determined by Pepsi. Pepsi negotiated concentrate prices with
its bottling association, and normally based price increases on the consumer
price index.
Result: concentrate makers regularly raised concentrate prices from 1980s to
the early 2000s.

Both Coke and Pepsi allowed bottlers to handle the non-cola brands ( but not
directly competing brands) of other concentrate producers. Franchised
bottlers could decide whether to participate in test marketing efforts, local
advertising campaigns and promotions, and new package introductions
(although they could only use packages authorized by their franchiser).
Bottlers also had the final say in decisions about retail pricing.

Third Stage
In 1990s, the divergence of interest between concentrate producers and
bottlers was reflected through a low-price strategy adopted by bottlers in
supermarket and a raise of concentrate price. As a result, burdened bottlers
had to increase its retail pricing, while concentrate makers lost profits as
consumers balked.
Coke : Dysfunctional relations with bottlers
Concentrate prices varied according to prices charged in different channels
and for different packages. Bottlers favored such arrangements in a
deflationary market (which the CSD market had become) but resisted them in
an inflationary market.
Pepsi: Strong relations with PBG
Supported by Pepsi, PBG excelled in higher-margin channels—especially the
convenience-and-gas channel, in which the bottler actually led CCE.

Retail channels exerted pricing pressure and wanted to negotiate directly with
concentrate producers. To counter these pressures, concentrate producers
launched new products and packages by marketing and innovation. It
increased costs for bottlers because they had to produce and manage
increasing number of SKUs. By loading more than one product type on a
pallet, bottlers incurred higher labor costs.

The introduction of alternative beverage types also increased bottlers’ cost as

it required costly new equipment and major process changes. Although Coke
and Pepsi paid half or more of such kind of additional cost, bottlers
compensated Coke or Pepsi by purchasing concentrate-like additives or
paying loyalty fees. Some non-carb drinks were also not delivered by bottlers.
The profitability of bottling non-carb beverages was also affected by the
following facts:
1. The sales volume of non-carb beverage is much lower than that of CSD
2. Bottler margins on water were high, but as consumption shifted from
single-serve to multi-serve bottled water (multi-serve accounted for about
70%) and the plastic costs kept rising, the margins were sharply cut.

Why do the concentrate producers and the bottlers involve such relationship?

First Stage (1890-1978):

1. Game theory- Do coordination to avoid “prisoner’s dilemma”
In the early stage, Both Coke and Pepsi developed bottling network quickly.
In 1910, Coke already had 370 franchisees while Pepsi had 270. In 1950,
Coke shared 47% of American market share and Pepsi shared 10%.
However, in 1970, Pepsi’s market share increased to 20%.
Facing competitor’s growth, if Coke and bottlers only focused on their own
profit’s maximization, they would fall into “prisoner’s dilemma”, the
outcome was {limited profit, limited profit}. They would lose more market
to Pepsi. Therefore, Concentrate producers invested much to support
bottlers’ sales and bottlers cooperated in marketing and promotion and
upgraded the plant and equipment. They worked together to get more
market share and shared more profit. The outcome was {win, win}. Pepsi
also took the same strategy to support the bottlers’ development and
increased the sales volume.

2. Complementary advantages- promote common development

The concentrate manufacturing process involved little investment while
bottling was capital-intensive industry. Through cooperation, there was no
need for concentrate producers to build bottler plants by themselves
which could help them to save money and accumulate funds. And bottlers
can develop fast with the big orders.
Second & third stage: 1978-2009
1. Vertical integration- Cost leadership
In 1978, relations between Coke and its franchised bottlers had been
strained and the coca wars decreased the bottlers’ profits. In 1986, Coke
created an independent bottling subsidiary. The acquisition increased the
long-term debt but cut its work force by 20%. Pepsi did the same in the
late 1980s.
Furthermore, the growth health concerns for caffeine and sugar
consumption threatens industry performance. To find new growing points,
Coke and Pepsi developed non-carb beverages but bottlers were not totally
involved in the new business because of the infrastructure limitation. The
new distribution process also increased the bottlers’ cost. It is difficult to
find bottlers’ incentives.
In order to reap economic efficacy, Coca and Pepsi acquired their top
bottlers in 2009.