Sunday, 11 May 2014

Pricing at movie theatres still defies logic. Or does it?

This week in ECON100 we are covering pricing strategy. As part of preparing for lectures, I've been going back over some material I have collected over the years, including this article from the International Review of Law and Economics by Barak Orbach (University of Arizona) and Liran Einav (Stanford) (ungated earlier version here).

The Orbach and Einav article is interesting because it lays out two interesting puzzles in the pricing of movies at movie theatres. Both puzzles relate to why movie theatres charge the same price for different movies (price uniformity), but they relate to different dimensions of the puzzle:
1. The movie puzzle refers to price uniformity across movies that run at the same time. Namely, the situation of two movies that are playing simultaneously at the same theater and are price uniformly, even when one movie has just been released, is much more popular, or occupies the screen for more time.
2. The show-time puzzle refers to the lack of price differentiation between weekdays and weekends or across seasons. That is, price uniformity across show times (with the prime exception of matinees). 
Orbach and Einav identify and dismiss a number of possible explanations of the puzzle from behavioural economics and transaction cost economics, and I think it's worth exploring these briefly:

Perceived fairness: If consumers believe that price changes are in some way unfair, they will react negatively towards the good. Changes in price that relate to changes in cost are often perceived as fair, whereas changes in price that relate to changes in demand are more likely to be perceived as unfair profit taking on the part of the firm. The counter-argument recognises that consumers are not fully rational, and value gains more than losses. If movie theatres framed the price differential as a discount for low-demand movies, rather than a surcharge on high-demand movies, it is unlikely that consumers would perceive it as unfair.

Unstable demand: Consumers might perceive variable pricing as a signal of quality. So, lowering price might actually decrease the number of tickets sold rather than increase them. However, while this might be the case when first introduced, consumers would soon adapt to movies becoming cheaper as they age and not take this as a signal of quality.

Demand uncertainty: Because the appeal of certain movies is unknown, it is not possible to price them prior to their release. Of course, the obvious counterargument is that demand is somewhat known - movie theatres know when new releases should be shown across multiple screens and a large number of screening times or not, for instance.

Menu and monitoring costs: There are explicit costs associated with changing prices (menu costs), but with the advent of large LCD screens that show movie prices these costs are minimal. There is also a chance that variable pricing might confuse consumers and deter them from going to the movies (lest they arrive and find that the movie they wanted to see is much more expensive than they anticipated). However, as most consumers plan ahead by checking the screening time online, showing price information alongside screening time would reduce the confusion. There are also costs associated with making sure that consumers who purchased tickets for low-price movies don't sneak into a high-price movie instead (monitoring costs). However, the additional profit from variable pricing would likely more than offset the added monitoring cost (since multiplex theatres must already monitor their moviegoers to ensure that they don't leave one movie just finishing and sneak into another just starting).

Overall, the paper concludes that:
The practice [uniform pricing] seems to persist partially due to misconceptions of exhibitors and partially due to distributors' enforcement of uniform pricing. While distributors are not allowed to intervene in box-office pricing, occasionally they enforce uniform pricing by refusing to deal with exhibitors that wish to switch to variable pricing.
So, essentially it comes down to the market power of movie distributors to force the exhibitors to price in a certain way. The distributors have market power because there are few substitutes for the summer blockbuster movie, and if the movie theatres choose not to price as the distributors want them to for the low-demand movies, they might miss out on the high-demand blockbusters.

Anyway, the paper was originally written in 2001 (and finally published in 2007!), but surprisingly little has changed in the meantime. I took a look at a couple of random multiplex cinemas in the U.S. (here and here) to double-check what I was talking about. There is some move towards variable pricing across time slots (weekdays and matinees are cheaper than weekends and evening showtimes), and price discrimination still reigns (lower prices for students and seniors who have more elastic demand for movie tickets), but no variation across movies. This is the same situation we see in New Zealand (see here or here). Premium seating options are increasingly common, and there are price differences between 2D and 3D movies, but within seat and movie types there is uniform pricing.

Or is there? I'm not convinced that there is no variable pricing at play here. It might be limited by the market power of the distributors, but consider these two points.

First, consumers are typically unable to use complementary passes at new movies. However, the length of time a new movie remains "no complementaries" varies by movie. A summer blockbuster might remain "no complementaries" for a few weeks, whereas a B-grade horror flick might only be "no complementaries" on opening night or not at all.  You might argue though that the price is the same, whether the consumer is using a ticket purchased on the day or a complementary ticket which was purchased earlier. However, complementary passes are usually distributed in bulk to third parties and for less than the full ticket price. The effect of this is that the average price paid by consumers for a movie varies by movie. It's probably not a large difference (although if the movie theatres didn't enforce this rule, along with many others I would certainly be saving any free passes for the high-demand movies), but it will have some effect of changing the average price received by the movie theatre even though their posted price doesn't change.

Second, movie theatres are very deliberate in their selection of session times for movies. The low-demand movies are more likely to be playing at low-demand times (Monday afternoon, etc.), when ticket prices are lower. So again, this will affect the average price the movie theatres receive for each ticket sold for different movies with low-demand movies (being more likely to be in low-price session times) having a lower average price than high-demand movies.

So, overall while variable pricing is not observed explicitly in the market, I would argue that there is at least some variable pricing at play through the non-price strategies undertaken by the movie theatres.

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