Economics - Product Pricing & Costs
Length: 1634 words (4.7 double-spaced pages)
It is practically everywhere. In the workplace. Beside exercise stations in health clubs. At athletic events. In backpacks hanging from the shoulders of students. Even on tables at conferences and workshops. Bottled water, once considered the refreshment of the affluent, has become the liquid icon of today's active, health-conscious consumer (Lambert, 1991).
Aquafina, a Pepsi product, introduced itself in Wichita, Kansas in 1994, and reached national distribution in 1997. According to Aquafina's website, since its debut, Aquafina has won over consumers with its great taste and purity. In 2003, they were the best-selling brand of bottled water.
Bottled water emerged as the second largest commercial beverage category by volume in the United States in 2003, and, despite its significant stature, it continued to grow at a rapid pace in 2004. The category is growing even more forcefully on a global scale but in the U.S., volume is unparalleled. In 2004, total U.S. category volume surpassed 6.8 billion gallons, an 8.6% advance over 2003's volume level. That translates into an average of 24.0 gallons per person, which means U.S. residents now drink more bottled water annually than any other beverage, other than carbonated soft drinks (Beverage Marketing Corporation, 2005).
Carrying around a bottle of water has become a status symbol for many younger Americans. Aquafina recognized the trend, and broke into this once exclusive market. Because water is so important, health and nutrition experts recommend drinking at least two liters of water each day. Bottled water a convenient way to ensure enough water is consumed at wherever a person may be. Bottled water is the beverage of choice for hydration and refreshment because of its consistent safety, quality, good taste, and convenience. The U.S. Food and Drug Administration (FDA) fully regulates bottled water as a packaged food product and requires bottled water to adhere to FDA's extensive food safety, labeling, and inspection requirements.
Aquafina's bottled water is inelastic. Water is the single most abundant substance in the human body, making up to 60% of an adult's weight and up to 80% of an infant's weight. A person can live several days without food, but just a few days without water. Like air, water is essential to life.
Aquafina's bottled water prices are comparable to all bottled water manufacturers, yet comes with a higher quality.
Water is the second most important thing the human body needs, and consumers will pay whatever price necessary to get clean drinking water.
There are hundreds of brands of bottled water. Some name brands are Dasani, Geyser, Natural Springs, Evian, and Aberfoyle. Currently Aquafina water is the most advertised, and the most consumed bottle of water. To stay ahead, Aquafina should employ the four P's:
Price- Make sure that the price is the lowest in can be.
Place-Make sure the product is in the right stores, on the right aisles, and on the right
Product- Make sure that the product is high quality.
Promotion- Advertise, discount, and place the product first on the shelf.
A food system firm faced with a change in the cost of an input has several options. If the input cost increases, the firm can (1) absorb the higher costs by keeping its prices steady and accepting a lower profit level, (2) pass on at least some of the higher costs by raising the price of products, or (3) adjust its production process and employ fewer units of the higher cost input by substituting one or more other inputs. If the input cost decreases, the firm has the opposite optionshigher profits, lower output prices, or expanded input use. Of the three options, the last two can directly affect food prices either by the firm raising the price of its food products, or by food production adjustments that influence the amount of food available, and thus its price.
Several key factors influence how an input cost increase might affect the prices of food and kindred products under conditions of competition among numerous firms. For a given increase in an input's cost, the larger will be an increase in the food product's price when:
1) The share of the input in the total cost of producing food products is larger.
2) The input has fewer good substitutes in the food production processthat is, few other inputs or processes could be used to produce the food product.
3) Consumers have few good substitutes for the food product, in which case consumers do not decrease purchases substantially when the price is higher.
4) A short period of time is considered, as a rule of thumb. For example, weather or transportation problems can temporarily cause sharp price increases, with prices returning to previous levels once the problem ends. If instead an input cost increase is permanent, two types of long run responses affect the product's price. On the one hand, consumers more readily find and use substitute food products as more time passes, which would tend to make the price increase of a particular food larger in the short run than in the long run (mimicking the earlier case of weather or transportation problems). On the other hand, the input cost increase can affect some firms' ability to remain in business. As those firms leave the market, the price increase would be larger in the long run than in the short run. The relative strengths of the consumer-side and firm-side changes determine the ultimate path of the product's price (Economic Research Service, 2005).
All these forces may be exerting pressures for higher prices when the cost of an input in food production increases. Retail food prices are more volatile than the prices of other goods and services. Market conditions such as whether a market has relatively few firms, can play an important role. Yet, casual observation of food price patterns reveals that food prices do not change every time an input cost changes (Economic Research Service, 2005). Additional items that can cause prices to escalate include technology, an increase in the minimum wage, an increase in taxes, and/or an increase in energy prices.
Market Structure Component
From 1999 to 2003, carbonated soda consumption grew in volume terms by 1.9 percent, while bottled water consumption rose by 42 percent. The overall bottled water market is the fastest-growing major sector of the U.S. beverage industry with sales up 20 percent in the first nine months of 2004. The perceived deterioration of the nation's water supply has expanded consumer demand for pure bottled waters. Although bottled water accounts for less than 10 percent of the market, the expansion rate of this segment has been high. From 1997 to 2002, this segment of the industry grew 100 percent. PepsiCo and Coca-Cola hold the largest shares with their Aquafina and Dasani brands, but the market remains fragmented. Unlike spring waters, Aquafina is a heavily filtered tap waters produced by local bottlers (RSM McGladrey Group, 2005).
Like other areas of the beverage market, water, once the province of small, local spring bottlers and a few European importers, has now become an oligopoly. An oligopoly is a market structure dominated by a small number of large firms, selling both identical, or differentiated products, and significant barriers to entry into the industry. Oligopolistic industries are nothing if not diverse. Some sell identical products, others differentiated products. Some have three or four firms of nearly equal size, others have one large dominate firm (a clear industry leader) and a handful of smaller firms (that follow the leader). Whatever products they may sell, and however they may be organized, oligopolistic industries share several behavioral tendencies, including (1) interdependence, (2) rigid prices, (3) non-price competition, (4) mergers, and (5) collusion. In other words, each oligopolistic firm keeps a close eye on the decisions made by other firms in the industry (interdependence), are reluctant to change prices (rigid prices), but instead try to attract the competitors customers using incentives other than prices (non-price competition), and when they get tired of competing with their competitors they are inclined to cooperate either legally (mergers) or illegally (collusion) (AmosWEB, 2006).
Aquafina is in the top two selling brands in the US market. Carrying around a bottle of water has become a status symbol for many younger Americans. Aquafina recognized the trend and broke into this once exclusive market. The next step is differentiating waters by making them vitamin-enriched nutriceutucals. Aquafina is a Pepsi Product. Pepsi, through its Gatorade subsidiary, now offers Propel, enhanced with vitamins and minerals. It is also selling a product called Aquafina Essentials, which is flavored water (some sugar added), doubtless a healthy drink. Aquafina was the first bottled water (of the four main bottlers: Nestle, Danone, Coca Cola, and Pepsico) to introduce a vitamin enriched flavored water. This is exactly what Aquafina needs to move them into optimal competitive position.
AmosWEB. (2006). Oligopolistic behavior. Retrieved January 1, 2006 from http://www.amosweb.com/cgi-bin/awb_nav.pl?s=gls&c=dsp&k=oligopolistic+behavior.
Beverage Marketing Corporation, (2005). Bottled water continues as number 2 in 2004. Retrieved November 30, 2005 from http://www.bottledwater.org/public/Stats_2004.doc.
Economic Research Service, United States Department of Agriculture. (2005). Food CPI, prices, and expenditures: How changes in input costs affect food prices. Retrieved December 21, 2005 from http://www.ers.usda.gov/Briefing/CPIFoodAndExpenditures/howchangesininputcostsaffectfoodprices.htm.
Lambert, V. (1991). Bottled water: New trends, new rules. Retrieved December 2, 2005 from http://www.fda.gov/bbs/topics/CONSUMER/CON00234.html.
RSM McGladrey Group. (2005). Nonalcoholic beverages. Retrieved December 21, 2005 from http://www.rsmmcgladrey.com/Resource_Center/Manufacturing/2086nonalcoholicbeverages.pdf.