The Pepsi Challenge.

After falling flat when its Venezuelan bottler deserted it, Pepsi has regained its fizz. Coke is fighting back.

THREE YEARS AGO, WHEN PEPSICO S local bottler switched to Coca-Cola with its entire production and distribution facilities, Venezuelan consumers saw their favorite soft drink disappear overnight from store shelves and restaurants. A massive wave of red and white products and publicity flooded the country, replacing 50 years of Pepsi dominance in a matter of days.

Following a six-month absence from the market, Pepsi launched an aggressive counterattack. Today, the two cola giants are still lodged in a fierce war over control of one of the most attractive soft-drink markets in the region. The average Venezuelan guzzles an amazing 280 eight-ounce bottles of soft drinks per year, which translates into estimated sales in excess of US$1 billion.

According to Pepsi, the red, white and blue is back, with 38% of the cola market (compared with 78% in early 1996). While Coca-Cola questions Pepsi's current share claims, it recognizes that Pepsi has staged a remarkable recovery "They came back very fast:' says Brent Willis, president of Coca-Cola's Vencol division, which covers Venezuela and Colombia. "[And] this is one of the most competitive market environments in the world."

Pepsi's aggressive turnaround is due largely to the financial strength and bottling experience of its local partner, Polar, the country's largest food and beverage conglomerate.

Sorpresa, Polar's 70-30 joint venture with PepsiCo, managed to bottle the first Pepsi only three months after the partnership's inauguration in January 1997. It tapped a ready source of supply for some of its needs from other divisions or joint ventures of the Polar group, including bottles, bottle caps and packaging, as well as rigs and coolers for 1,600 trucks that feed 200,000 of its sales points. Within its first year of operation, Sorpresa had recovered a 17% market share.

At first, market penetration came with high transportation costs, as large parts of the country had to be supplied from distant bottling facilities. But two and a half years and $500 million later, Sorpresa has five of its own bottling plants. "We have recovered the necessary capacity to meet nationwide demand:' says Gustavo Hernandez, Sorpresa's president.

Unlike Coca-Cola, which has 18 bottling facilities, Sorpresa has fewer plants with larger scales of economy but each covers a vast section of the market.

Behind that textbook corporate mission statement could lie the key to victory in the battle over Venezuela's soft drink market.

Bitter price wars. For instance, in the high-consumption area around the western city of Maracaibo, the company's plant that was inaugurated in June meets 25% of the country's demand. The plant's annual capacity of 30 million cases is expandable by two more lines to double capacity, making it one of the largest and most efficient of its kind in Latin America, according to Lorenzo Mendoza, Polar's 33-year-old chief executive. "We want to become the most efficient soft-drink producer in the country so as to supply quality products at accessible and competitive prices:' he says.

Low production costs will determine the ability to wage the kind of bitter price wars that detonated early last year when both companies offered retail discounts of up to 50%, compared with zero to 5% normally At one point, a 2-liter bottle of soda cost as little as 80 cents. "We weren't ready for that," admits Coca-Cola's Willis, who's under pressure from shareholders to boost margins.

In the long run, Sorpresa's new production and distribution facilities could provide it with cost advantages over CocaCola, which inherited poorly maintained, aging plants, according to Rafael Avendano, a former sales manager at Pepsi. Coca-Cola is also struggling to improve labor productivity and implement a new corporate culture.

"We're not nearly as productive yet as we would like. Our sales force is red but still bleeds blue:' Willis admits, referring to the former Pepsi staff Coca-Cola took over in 1996. He says the company's biggest challenge is building a high-speed operation out of a company that previously operated as a near "monopoly"

"They're passing through a moment of managerial turbulence:' Sorpresa's Hernandez says about Coca-Cola. "It's not easy changing the culture of a company in a single weekend when it has been working in a particular way for 60 years. This must be producing some sort of internal disturbance."

Willis counters by charging that Sorpresa's price offensive was costly and led to only a momentary peak in market share. He alleges that Sorpresa was forced to end the price war in February after losing some $40 million last year.

Sorpresa's Hernandez claims Venezuelans' long-time loyalty to the Pepsi brand will help him reestablish his market. "We have the advantage of building on the name recognition of the brand," he says. To cement that recognition, by May 1999, PepsiCo had spent $77 million in promoting its brand names in Venezuela.

Winning hearts and minds. Willis, an aggressive 39-year-old West Point graduate, insists Coca-Cola is winning the long-term contest for consumer preference. "For us, winning is the domination of the hearts and minds of consumers," he says.

But Coca-Cola insists polls show 40% of consumers prefer its brand over Pepsi's 20% in May 1999. But three years earlier, in August 1996, Pepsi-Cola's brand was preferred by nearly 80% of consumers. "We have reversed Pepsi's 50-year lead in two years," Willis boasts. "We understand the values and motivations of consumers better." He argues sales will eventually follow brand preference.

Both companies seek to lure retailers and consumers with thousands of advertising gimmicks and premiums- coolers, countless banners, shop signs and other paraphernalia. But Coca-Cola has gone the extra mile, including sponsoring popular, high-profile events, such as a yearly rock concert in Caracas. "Coca-Cola clearly has had the upper hand in the sheer volume of publicity," Avendano says.

Having recognized that Venezuelans increasingly drink sodas while "on the move," Coca-Cola recently began hitting the streets with mobile vendors as a means to boost its sales. As part of that effort, the company has launched what it calls the "100 Meters Program," where non-traditional distribution channels in urban areas will be targeted to make cold Coca-Cola available to consumers within 100 meters of wherever they are, whether at school, work or home.

Such distribution measures could be decisive in determining the outcome of the soft-drink battle. However, one potential customer at a hot dog stand in downtown Caracas who remains unimpressed by the entire soda war sums it all up: "I don't have a preference for either cola, as long as they are cheap and cold."