Coca Cola New Vending Machine Pricing to Capture Value, or Not?

In 1999 the Chairman and Chief Executive Officer M. Douglas Ivester gave a declaration that Coke was testing a new technology that would allow vending machines to chance prices according the weather. His declaration caused public reaction immediately. Although he argued that the utility of a cold Coke is higher in a sunny day, we disagree that the new vending machine pricing strategy would capture value for several reasons. First, he made a wrong assumption that the increase in willingness to drink a soft drink in a hot day is perceived as benefit of which people would pay more for satisfying that necessity. In addition, he forgot that Coca-cola is not a monopoly and he did not consider the existence of the competition and other sources of soft drinks available to customer. Furthermore he overlooked the damage that a mechanical pricing mechanism could do on brand image. Consequently, Coca-Cola not only did not capture value with the new pricing system but also incurred in expenses to recover the brand damage that eventually could affected other sales channels. The unfortunate declaration of the CEO regarding a strategy that should increase profit ended up creating an uncomfortable situation for the company.

First M. Douglas assumed that the willingness to buy Coke in hot days are higher than in cold days; so the customer would agree to pay higher prices according price discrimination theory. Although the CEO rational seems to be reasonable up front, he incurred in a mistake not considering the fact that the price discrimination is only applicable when the customer perceived additional benefit for the extra money that he/she is paying for the same product. In addition to that, Coke is a low value added product and market price is well-known by consumers.

According Kreps (2004) , price discrimination is the mechanism of charging higher prices to people who will pay higher prices and extracting from customers the surplus they obtain from consuming the good. Particularly in the case, neither the vending machine nor the product itself would provide more benefit to the customer whether there is a change in the weather therefore the customer would not perceive a surplus in that situation. Actually what happened was exactly the opposite, consumers understood the price rising as a reduction of their surplus and they had an upset reaction to Coke initiative. To illustrate let's consider that would be possible to segment the consumers. For instance, consider a tourist in a specific spot, like a special beach in a hot day, and that he/she would like to enjoy the sightseeing having a cold beverage, specially a Coke, which is his/her preference; in this case it is more likely that this specific tourist pays higher price for a Coke because he/she see additional value in the availability of the product that would satisfy his/her wish. This example illustrates that the price discrimination should also consider the marginal utility of a purchase; in this case the marginal benefit of the first Coke is very high due to the scarcity; in the other hand in an ordinary situation the marginal benefit is low because as the product is easily available, the product scarcity is also low.

Second the CEO overlooked the vast existence of substitutes and other sources of soft drinks than the vending machines, in other words, he did not consider the competitors, assuming that the vending machine would have the "monopoly" of its own demand. He assumed that a change in price would not represent a drop in the vending machine demand. Therefore the CEO forgot to consider a situation that is fundamental to the existence of price discrimination as mentioned by Machlup (1955) , who defends that discrimination is essentially a method used "to create a monopoly" because a higher degree of competition would make every seller run after the good orders and