Academic journal article
By Chen, Chien-Ping
Atlantic Economic Journal , Vol. 37, No. 1
Price variation over differentiated products is the profit-maximizing solution corresponding to differing price elasticities of demand. A significant exception, the uniform price across different motion pictures at the box office, has been challenging economists for years. Market practitioners justify a persistent uniform pricing regime, with demand uncertainty (i.e. inflexible price helps in eliminating demand uncertainty), quality signal by pricing (i.e. lower priced movies will lead to a significant decline of demand), potential loss of goodwill (i.e. variable pricing will confuse and antagonize patrons), and the agency problem (i.e. exhibitors' major profits come from sales of concession rather than from box office). Orbach (2004) argues, however, that none of the above plays an important role in determining uniform pricing over different
movies. The key objection for price variation comes simply from the distributors' illegal intervention. They enforce uniform pricing by refusing to deal with exhibitors that wish to exercise variable pricing. Furthermore, Orbach and Einav (2007) conclude that if the antitrust prohibition (1) can be enacted more strictly; that is, if exhibitors can really choose an optimal pricing regime, then variable pricing, at least tiered pricing over regular and event movies, should be the profit-maximizing choice of movie theaters and would benefit patrons. Given their assertion, a premium added on regular admission price at box office for event movies such as Spiderman 4 will benefit the movie theaters.
This paper considers the agency problem associated with concession sales between the exhibitors' profit maximization and the distributors' revenue maximization to examine the assertion in Orbach (2004) and Orbach and Einav (2007). The model derived in this paper explores the nature of price rigidity at the current uniform price regime. It develops the criteria for both exhibitors' and distributors' preferences over the tiered pricing for regular and event movies, with and without concession sales. The uniform price regime is shown to be optimal for the exhibitor's profit maximization from both box office revenue and concession sales together, without the distributor's intervention. High concession profit not only defends uniform pricing for the exhibitor, but also relaxes the agency problem between the exhibitor's profit maximization and the distributor's revenue maximization. Unless many event movies are expected to be blockbusters, tiered pricing cannot benefit either exhibitors or distributors. The condemnation of distributors in Orbach (2004) and Orbach and Einav (2007) is undeserved. In addition, the model shows how the distributor can eliminate an agency problem by its choice of the share of gross box office revenue and the minimum dollar amount collected per seat.
The paper is organized as follows. The next section reviews the literature and clarifies how to represent demand for analyzing uniform vs. two-tiered pricing in the motion picture industry. The theoretical model develops the profit-maximizing criteria for both exhibitor and distributor to favor tiered pricing, given the estimation for the event movie's popularity. The criteria varies significantly with and without concession sales, and a simple example illustrating the findings will follow. The final section summarizes and provides possible extension for the future.
Although few empirical studies (Cheung 1977; Groves 2000) from the foreign movie theater industry have proven that price variation increases exhibitors' profits from the box office, concession sales have not been considered in these studies. Luis and Rodriguez (1992) explore how concession pricing affects the movie price, and they conclude the exhibitor's profit comes substantially from over priced (i.e. above its marginal cost) popcorn. They do not explain why the exhibitors stick with the motion picture industry: (a) no direct or indirect intervention in admission price setting by producers and distributors; (b) no licensing negotiations except on theater-by-theater and movie-by-movie bases; and (c) no vertical integration between the Paramount defendants and exhibitors. …