Case: Pepsi's Exclusivity Agreement With a University

In the last few years, colleges and universities have signed exclusivity agreements with a variety of private companies. These agreements bind the University to sell that company's products exclusively on the campus. Many of the agreements involve food and beverage firms.

A large university with a total enrollment of about 50,000 students has offered Pepsi-Cola an exclusivity agreement, which would give Pepsi exclusive rights to sell its products at all University facilities for the next year and option for future years. In return the University would receive 35% of the on campus revenues and an additional lump sum of $200,000 per year. Pepsi has been given two weeks to respond.

The management at Pepsi quickly reviews what it knows. The market for soft drinks is measured in terms of the equivalent of 12 ounce cans. Pepsi currently sells an average of 22,000 cans or their equivalents per week (over the 40 weeks of the year that the University operates). They can sell for an average of $.75 each. The cost including labor amounts to $.20 per can. That she is unsure of its market share but suspects it's considerably less than 50%. A quick analysis reveals that if the current market share were 25% then with an exclusivity agreement Pepsi would sell 88,000 cans per week. Thus, annual sales would be 3,520,000 cans per year (calculated as 88,000 cans per week time 40 weeks).

The gross revenue would be computed as follows:

Gross revenue equals 3,520,000 cans time $.75 revenue/can equal $2,640,000 this figure must be multiplied by 65% since the University would rake in 35% of the gross.

The 65% times $2,640,000 equals $1,716,000

the total cost of $.20 per can (or $704,000) and the annual payment to the University of $200,000 is attracted to obtain the net profit:

net profit equals $1,716,000 $-704,000 $-200,000 equals $812,000

the current annual profit is:

current profit equal 40 weeks times 22,000 cans per week times $.55 per can equals $484,000

if the current market share is 25%, the potential gain from the agreement is:

$812,000 $-484,000 equals $328,000.

The only problem with this analysis is that Pepsi does not know how many soft drinks are sold weakly at the University. In addition, Coke is not likely to supply Pepsi with information about it sales, which together with Pepsi's line of products constitutes virtually the entire market.

A recent graduate of a business program believes that a survey of the university students can supply the needed information. Accordingly, she organizes a survey that asked 500 students to keep track of the number of soft drinks a purchase on campus over the next seven days. Perform a statistical analysis to extract the needed information from the data. Estimate with a 95% confidence the parameter that is at the core of the decision problem. Use the estimate to compute estimates of annual profit. Assume the Coke and Pepsi drinkers will be willing to buy either product in the absence of their first choice.

1. On the basis of maximizing profits from sales of soft drinks at the University, should Pepsi agree to the exclusivity agreement?

2. Write a report to the company's executives describing your analysis.

The Coke Side of The Equation:

While the executive of Pepsi are trying to decide what to do, the university informs them that a similar offer has gone out to the Coca-Cola company. Furthermore, if both companies want exclusive rights, a bidding war will take place. The executives at Pepsi would like to know how likely it is that Coke will want exclusive rights under the conditions offered by the university. Perform the analysis from Coke's point of view.

Would Coke benefit from exclusive rights.