Critical Loss Analysis Energy Drinks are NOT a

Critical Loss Analysis Energy Drinks are NOT a Relevant Product

The Loss vs. The Gain The Two Effects of Raising Price: n a. Loss in from losing energy drink sales that earned n b. Gain in from higher prices on energy drink sales positive margins that still get made “Critical Loss” is the amount of lost sales required for a net reduction in profits.

Critical Loss Graphically Price, Cost Gain in Pnew = Loss in (1. 05)*Ptoday MC D Qnew Qtoday Quantity

Energy Drinks Critical Loss § § § Pre-merger margins on retail sales of energy drinks are approximately 50% (see Appendix 1). Losing only 10% of these sales means that a 5% price increase is unprofitable (see Appendix 2). Therefore, Critical Loss is about 10% of sales.

Energy Drinks A Market? § Will actual loss in sales resulting from price increase be greater than critical loss (I. e. , 10%) in sales? § If yes, not a market. no, a market.

Energy Drinks Actual Loss § Actual loss would be greater than 10% § 86% buyers first time users, 76% of that from soft drinks – no loyalty § Energy drink demand elasticity = -5. 75 § Fast growth suggests fast decline possible § Conclusion: energy drinks not a relevant market.

Appendix 1 n n Chief Variable Costs of Manufacturing and Selling energy drinks are Raw Inputs, Labor, Energy, Packaging Total Revenue/Total Quantity (Average Revenue) is roughly 2 per half-litre Total Variable Costs/Total Quantity (Average Variable Cost) is roughly 1 per half-litre Margin = (P-C)/P = (2 -1)/2 =. 5 or 50%

Appendix 2 The Critical Sales Loss is < 10% n n n Raise the price of energy drinks 5% If the loss is (. 1 Q) x (. 5) [losing 10% of sales that had earned a 50% margin], then Then gain is (. 9 Q) x (. 05) [keeping 90% of sales and earning an extra 5% on each] Loss is. 05 Q > Gain is. 045 Q Conclusion: Critical Loss is about 10%