Pricing different movies differently

[tweetmeme source=”pricingright”] The question of, “Why are all the movie tickets priced the same?” have been studied at length*.  Economists express surprise at how primitive movie pricing is and how sub-optimal it is to charge the same price for all the movies. Marketers are surprised by the absence of basic tenet of marketing – segmentation and targeting, positioning the product and capturing value. Movie ticket pricing are indeed a greenfield for practicing price discrimination offering large un-captured consumer surpluses and value from price sensitive moviegoers.

Most pricing recommendations for movie theaters ask for

  1. Higher pricing for weekends
  2. Higher pricing based on mega budget films with stars
  3. Higher pricing in the opening weeks and then reduced pricing (like Hardcover, softcover books pricing)

These methods were usually pushed aside because of the logistics of implementing them ( Movie Mystery. By: Hessel, Evan, Forbes, 00156914, 1/29/2007, Vol. 179, Issue 2) or complexity in estimating weekend box office sales. Others offered conventions as the reason for not adopting variable pricing at movies.

To be fair, movie theaters do practice  price discrimination. They sell the morning shows at a discount bringing price sensitive customers who are willing to make the trade-off (Second degree). They give discount to students (Third degree). They sell discount tickets through supermarkets that can be used after the first two weeks (Second degree).

But the basic question remains, when everything else is held constant except for the movie itself, why are the tickets for two different movies priced the same? For example, at an AMC multiplex  the 4PM screening of two new animated movies, Planet 51 and Fantastic Mr. Fox, are priced exactly the same $10.75.   Fantastic Mr. Fox is based on a book by renowned children author Roald Dahl (a very good book if you have not read alrady) and Planet 51 is a slapstick comedy of reverse ET.  Why can’t these be priced differently? Why cannot movie theaters practice price discrimination across movie titles?

The answer, I believe, lies in utility customer gets from different movies. Movie theaters can charge different prices for different movies only if the customer utility and hence their willingness to pay varies across different movies.  Stripped to the barebones, all movies are perceived as the same by customers – these are all entertainment. In other words different movies are simple horizontal product line extensions.

Based on the marketing study that found horizontal product lines are perceived identical by customers and hence have no difference in customer willingness to pay I hypothesize that customers will not accept pricing that varies across movies.

While pricing different movies differently is not possible, movie theaters can and do charge different prices when the movie varies in format or experience like 3D and IMAX 3D. For example, AMC charges $11.75 and $12.75 for 3D and IMAX 3D shows of Disney’s Christmas Carol. This is possible because the 3D shows are vertically differentiated and the perceived value to the customers vary from the baseline version.

The net is movie theaters cannot increase profits by pricing different movies differently but can do so by offering vertical differentiation in the form of 3D movies (of course this is not under the control of theaters but the studios), better seating (practiced in most other entertainment venues) or better experience (specific auditoriums with better speakers).

Footnote: Other movie ticket pricing references

  1. Movie Mystery. By: Hessel, Evan, Forbes, 00156914, 1/29/2007, Vol. 179, Issue 2
  2. Why Popcorn Costs So Much at the Movies: And Other Pricing Puzzles by Richard B. McKenzie (p157-163) (My review of this book here)
  3. Why are all movies the same price? – Marginal revolution
  4. Antitrust and Pricing in the Motion Picture Industry. Yale Journal on Regulation Summer2004, Vol. 21 Issue 2, p317-367, 51p
  5. The Wisdom of Crowds by James Surowiecki (p98-102)
  6. Stanford GSB Research on Why Movie Popcorn costs so much?

Hormel Chili Prices Going To Get Hot

Hormel Chili reported increase in profit despite drop in revenues. Unlike all previous CPG cases we saw last quarter, Hormel’s profit came exclusively from cost reduction. In fact they failed to capture larger profit because of the price cuts.

Their revenue declined 10% on a volume decline of 3%. This means their prices dropped on the average by  7.2%. That is pure profit given away in he form of promotions and lower prices while the customers really were not looking for it. Their frozen food line saw 8% price erosion (revenue fell 9% on a 1% volume drop).

The good news is Hormel knows it and definitely is going to fix it. Hormel Chairman and Chief Executive Jeffrey M. Ettinger said,

Although we are pleased with our earnings, we experienced disappointing sales in the fourth quarter,” he said, citing in part lower pricing for its pork and turkey products and planned production reductions at its Jennie-O Turkey business, which is in the middle of a turnaround.

They can only go so far with cost reduction, but their current lower price offers bigger headroom for profit growth. If Hormel improved its prices by 5% and if their volume fell by about the same amount, their revenue may not grow as much but their profits will increase by  $64 million, that is 60% net income growth from 5% price improvement!

If the stock  market really follows profits over market share, we should expect Hormel stock to heat up.

Is Ann Taylor’s Pricing Paying Off?

Ann Taylor reported their Q3-2009 went up despite drop in sales. Their gross margin went up by $7.7 million while their sales fell by $64.8 compared to same  Q3-2008. Kay Krill, President and Chief Executive Officer, commented,

Our results for the quarter were a direct result of our strategy to maximize gross margin performance by tightly managing inventories, focusing on full-price selling and controlling costs. I am pleased that our performance also reflects the cumulative benefits of our ongoing restructuring program initiatives.

I have been writing all along about the need to cut promotions, focus on protecting pricing and practice effective price management to deliver profit growth. But I am not fully convinced that price increase contributed to Ann Taylor’s profit growth. In fact they may have lost more than they gained from price realization and any profit growth was a result of their cost cutting. I will focus on the gross margin number when I say profit in this discussion.

Ann Taylor cut down on promotions and focused on charging full-price with the net result of increase in average prices. Another measure is inventory control. Total inventory per square foot at the end of the third quarter of 2009 was down 20.7% versus year-ago. If we assume (see note below) that this reduction can be equated with drop in volume of the same level, from the revenue change and volume change assumption we can compute that the average price increased by 10.6% (See end of this post). In other words 1% increase in price resulted in 2% drop in volume (price elasticity 2).

Their percentage gross margin  was 48.8% the previous year.

Loss of profit from drop in volume (due to increase in prices) = 20.7%*48.8% =  10.1% of  Q3-2008 revenue

Increase in profit from 10.6% price increase = (100%-20.7%)*10.6%   =        8.4%  of Q3-2008 revenue

This is a net loss due to drop in volume. Since their profit in Q3 2009 increased YoY, the profit increase is entirely due to cost control and other effectiveness measures in merchandising.

So did Ann Taylor make the right decision to improve prices? Could they have delivered higher profit by keeping their promotions and price levels? Unless there is a strategic reason to preserve brand premium and long term profit, this price increase was not a profit maximization move.

Footnotes:

On the volume drop  assumption, this could be wrong because sales volume is a flow metric while inventory was a point metric. But this  is inventory per square foot of store, so it is a good stand in for volume. Another possibility is that a portion of the 20% reduction is to respond to volume that is already lost due to recession (demand curve shift). If the price elasticity drops to 1 or low, then yes the price increase makes perfect sense.

Calculating price increase :

R = P * Q;       (P2/P1) = (R2/R1)*(Q1/Q2)  (R2=$527, R1=$462, Q2 = (100%-20.7%)*Q1)

Careful what you ask for in WTP studies

In a seminal work titled “How the questions shape the answers” published in American Psychologist (1999), Norbert Schwarz describes how responses are influenced by question wordings, format and context. Schwarz writes,

“Self reports a fallible source of data and minor changes in question wording, question format or question context can result in major changes in the obtained results”

This is especially a more pronounced problem when it comes to survey questions that ask customers for their willingness to pay (WTP) for a product. When you directly ask a customer questions like:

  1. will you buy this product at  10?
  2. how much will you pay for product?  a) $4   b) $8   c) $10   d) $10    e)  $12
  3. will you buy this product if this were not offered free any more?

The researcher run the risk of getting answers that are not in any way  a true representation of what the customers will actually do. These kinds of questions assume that customers know how much they value the service and  customers are willing to disclose it. Another flaw in WTP studies is treating customer WTP as a fixed number in the minds of customers while it has been shown to be malleable (Thomas and Menon, Journal of Martket Research, 2006).

I saw a report from Forrester research on US customer WTP for online newpapers.  I admit I have not read the report but only their promotional blog post about it. The report claims 80% are not willing to pay for content From what I read I am not satisfied with study or its methods. The survey question was:

If the Web sites for the newspapers and magazines you read were no longer free, how would to prefer to pay for that content?

  1. Wouldn’t access them if I have to pay
  2. Subscription access to access all online content
  3. Subscription that combined print, web, and mobile device access
  4. Individual payment for each article read

The biggest flaw I find is anchoring – the question clearly reminds that the content has been free. The question  was too generic, asking  about newspapers and magazines you read and not about a specific newspaper or magazine. The respondents could be thinking of all newspapers, even those they read occasionally while answering this question.  There were no questions reminding respondents of value they get or to rank the online news sources by importance.   If the question had been,

If your most favorite newspaper cannot financially support the free online access, would you be willing to pay in one of the following ways?

  1. Subscription access to access all online content
  2. Subscription that combined print, web, and mobile device access
  3. Individual payment for each article read
  4. Wouldn’t access them if I have to pay

… the results would have completely different.

Based on their survey, Forrester  recommends:

  1. Publishers should continue to offer free, ad-supported products to the 80% of consumers who won’t pay for content online; and
  2. Publishers should offer consumers a choice of multichannel subscriptions, single-channel subscriptions, and micropayments for premium product access.

I do not agree. Even if we assume the 80% number is correct, does providing free provide higher profit than charging?  Do newspapers rally want higher reach (because of the Ad revenue)?

If a newspaper publisher really wants to find customer willingness to pay for content they need to do more targeted study of their readers,  use methods like Conjoint analysis to tease out the segments, how much customers in each value the product and focus on methods that help improve customer reference price before charging for content.

The net is the results are unreliable and Forrester’s recommendations are plain wrong.

Profitability of Product Proliferation – The Case of Downy Simple Pleasures

Update 3/26/2013: P&G recently discontinued Downy Simple Pleasures and relaunched it as Infusions

Recently P&G has been promoting a new line of Downy fabric softener called Simple Pleasures. This is a premium product compared to their regular Downy line and it offers at least five different scent choices. On top of that Downy brand is running a contest to generate more scents.

How many Downy scents does the market need or can support?

downy_simple_pleasures Brands have been competing for the shelf space and wallet share of customers by expanding their product line both vertically and horizontally. The reasoning is finding every niche and filling it with a version at a price customers are willing to pay. That is the reason a typical supermarket stocks 30,000 to 40,000 SKUs. That is the reason you see raspberry, strawberry, key lime pie, vanilla and all sorts of yogurts. While conventional wisdom may say to the brand managers to keep expanding, data show otherwise:

  1. Customers do not value different variations  (colors, scent, flavors)within the same product line differently
  2. Retailers cannot set the prices differently for strawberry flavored vs. raspberry flavored yogurts
  3. Increasing products horizontally (color, scent, flavors) do not result in increase in market share or profits

In an NPR story on Walmart earnings report, they interviewed a few customers shopping at a Walmart. One of them said,

Ms. HAVENER: Do we really need to carry 19 different tackle boxes, or do we need to carry six different tackle boxes? And were so really looking at clarity of offering.

This is one data point, but the broader story line is Walmart has been systematically reducing SKUs, decluttering shelves and pushing back on manufacturers on number of SKUs they want to stock. Walmart is the leader in retail market share and it is by no means alone in pruning shelves. Retailers like Walgreens and those in UK are doing exactly the same.  Retailers, especially Walmart, are known for religiously tracking revenue per square feet (it is actually per cubic feet) of retail space. All the retails space and shelf space may be sunk cost, but there is an opportunity cost associated with every SKU they decide to stock. Retailers are finding that customers value fewer options more than proliferation and the reduced inventory helps with profits when sales are down. So why are we seeing increase not decrease in SKUs from brands?

When P&G’s customers were trading down to private labels, P&G responded by vertical extension of its product lines like Tide Basic and Tide Ultra. As a multi price point   strategy to keep customers within the brand family that is the right approach. But I am not convinced with their horizontal line extension.

When a brand is already $1 billion in annual revenue (P&G has at least dozen of them) is product proliferation the only way to find growth? Given the  pressure from channels and the data showing otherwise why is P&G flooding the market with a product that differs only in the scent but otherwise has no functional utility to the customer?

P&G is arguably the best in class data driven and customer driven marketer, not just in CPG space but across the entire brand space. May be Google edges them out but that is another story. What are they seeing that the academic researchers and retailers are not?

Why are the Raspberry and Strawberry Yogurts Priced the Same?

You are walking along the dairy aisle, picking up Yoplait yogurts. You prefer the 99% fat free version, so you load up on some strawberry, some raspberry and some vanilla. The price? All of them priced exactly the same,  59 cents. (Let us ignore the one time promotions they run on one flavor to clear out the stock). After picking a dozen or so 99% fat free version you look up and find Yoplait Whips and it also has almost the same line up of flavors. Price? 79 cents.

  1. Why does the price vary across the types of Yogurt (let us call this vertical product line) but not across the flavors within a product line?
  2. Does it cost the manufacturer the same to make raspberry and strawberry yogurt? Should the cost difference be reflected in pricing?
  3. Do customers value the different flavors differently?
  4. Why does the price vary across product lines?
  5. Does a marketer stand to gain more profit by doing vertical line extension or by increasing variety within a product line?
  6. Can the marketer increase market share by increasing variety within product lines?

In their paper published in Marketing Science( Spring 2006, Vol. 25 Issue 2, p164-174) Stanford GSB professor Michaela Draganska and Kelloggs’ Dipak Jain asked just these questions and found the answers for the rest of us marketers.

We find that consumers value line attributes more than flavor attributes. Given that consumers value line attributes more than flavor attributes,  firms have a lot to gain by pricing their product lines differently whereas they have little to lose from pricing all flavors within a line the same. We also find that the value of a product line is not merely a function of the number of  flavors it includes: The calculated inclusive values indicate that more flavors do not always result in increased utility for consumers and hence higher market shares.

Firms’ profits would not significantly increase if they were to price  flavors within a product line differently. Therefore, the current pricing policy of setting different prices for product lines but uniform prices for all flavors within a line appears to be on target.

What does this mean to marketers? This tells what true versioning means, it is not just changing colors or toppings. Do not chase market share by making minor tweaks, this does not result in  profit increase. Strategy is about making choices. When in doubt about where to invest your R&D and marketing dollars, instead of expanding variety within a product line (horizontal versioning)  go for product line extensions (vertical versioning).