Transcript Entertainment and Media: Markets and Economics Professor William Greene 2:A - 1(51) Production and Cost.

Entertainment and
Media: Markets and
Economics
Professor William Greene
2:A - 1(51)
Production and Cost
Economic Foundations for
Entertainment and Media
Production, Cost and Organization of
Firms in E&M Industries
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Production and Cost
Classical Economics Apply to the
Market for Toasters
 Costs of production
 Variable vs. fixed costs
 Cost characteristics
 Economies of scale
 Economies of scope
 Technological change
 Profit
 Firms in markets: market power
and brand identity, etc.
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Production and Cost
Familiar Market Outcomes in
Commodity Markets
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Market power
Monopoly
Competition
Branding
Market segmentation
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Production and Cost
Producing Experiences
 Features of Entertainment and Media Firms
 Conventional economics explains much of
production
 There are special features of E&M production
 Economic Foundations for Production
 Production functions – the technology
 Costs of production – an element of competition
 Economies of scale and scope – produce market
advantages
 Technological change – markets evolve
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Production and Cost
Characteristics of the Creative Industries
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What do we mean by “the creative industries?”
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Not synonymous with experience goods: E.g.,
amusement park vs. art
Are there distinguishing features?
Implications for the organization of market
activities:
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Contracts among producers
Market organizations for distribution
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Production and Cost
Caves on Creative Industries
Characteristics of production in creative industries that are
unlike more conventional production
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Uncertainty of demand – difficult to resolve using market
research
Producers’ emotional connection to the output – art, music
Assembly of widely diverse skills for production - movies,
sports)
Differentiated products – different consumers have very
different interests in the same proeuct.
The role of time in consumption
Durable products and durable rent streams
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Production and Cost
Features of Production in
Entertainment and Media
 Multiple stages of production
 Outputs as downstream inputs
 Content creation is often very labor intensive
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Labor intensive
Little substitution
Less Technologically Oriented
Not always - animation is a major exception
 Delivery – Exhibition, distribution
 Capital intensive
 Technological advance
 Applications: Books, Movies, TV, Newspapers, Radio,
Recorded Music
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Production and Cost
The Production Function
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Output
Inputs – The
factors of
production
The “process”
The amount producted, Q, depends on “inputs” or
factors of production.
Conventional inputs:
Capital, labor, materials used in making movies
Unconventional inputs:
Music used in distribution and production in stores
and offices.
The crowd used to create big sporting events.
Labor
Capital
Materials
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Production and Cost
BB&B Production Function
Output: Distribution of
things to consumers
 Inputs:
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Capital: Physical, Financial
Labor
Energy
Materials
Music
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How do they use music?
Why do they use music?
How do they pay for it?
Production and Cost
Live Performance Production is Unconventional
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Production function – One “stage”
Simultaneous production and consumption
Feedback between consumers and producers
 Concerts
 Big Sports
 eBay watchers
Production and Cost
About Production Functions
Factors and Factor Intensity
 Higher education is very labor intensive, but less so
over time.
 Broadway (legitimate) theater – very labor labor
intensive and there is almost no opportunity to
substitute capital for labor
 Creating Music – labor intensive, but some
opportunities to substitute capital for labor.
 Major League Baseball – only the game on the field is
labor intensive. Most of the rest of the process is very
capital intensive.
 Casino – capital intensive. It takes relatively few people
to keep a casino working, and fewer over time.
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Production and Cost
Production Processes Sometimes Allow Substitution
Substitution of Factors
 Live theater – the “cost disease” results
from little opportunity to substitute
capital for labor
 The trend toward animated movies is an
example of substituting capital for
labor.
The figure shows different
combinations of capital and
labor that can be used to
produce 100,000 units.
E.g., the USPS can use
people or machines to sort
100,000 pounds of mail.
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Production and Cost
Now, after 500
performances, our
producers have told us
and our union that in order
to cut costs they will chop
our string section in half,
releasing five musicians
and “replacing” them with
a synthesizer piped in
from another room.
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Production and Cost
Multiple Output Processes
 Managing a multiplex – Two outputs
 Concessions (the primary source of profits)
 Movies (the secondary profit center)
 Casino:
 Gambling
 Food and entertainment
 Professional sports performance
 The sport: Outcome on the field and the signal for
broadcasting
 Concessions including food and merchandise
 Sky boxes in stadiums
 Music Distribution
 Performances (public) that also distributed recorded
versions plus t shirts and souvenirs
 Music videos
 Music for private consumption
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Production and Cost
Mathematical Model for a Movie Theater
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Tickets= Demand for movie tix:
T(Pt,qm,M). Marginal cost = Ct
Food = Demand for food:
F(Pf,T,M). Marginal cost = Cf
dF/dT > 0 More movie goers buy more food.
Ignoring Food, the theater owner acts like a ticket monopolist:
Profit = T*Pt - T*Ct. Maximize by equating marginal revenue to
marginal cost: Pt + T*(dPt/dT) = Ct
Considering food, theater tries to maximize profits from tickets and
food: Profit = T*Pt - T*Ct + F*Pf – F*Cf
They must equate MR to MC in both parts. For the tickets part, now
Pt + T*(dPt/dT) + Pf*(dF/dT) = Ct
Pt + T*(dPt/dT) = Ct - Pf*(dF/dT)
Marberger, D., “Optimal Pricing for Performance Goods,”
Managerial and Decision Economics, 1997, 18, 5, 375-381.
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Production and Cost
Movies and Food
Ticket Price
Pt is the monopoly price if the owner ignores the effect of tickets on sales of food.
Pt|f is the ticket price if the owner also considers the effect of tickets sold on sales of food.
Pt
Pt|f
Marginal Cost
Marginal
Cost minus
food effect
Food
Effect
Demand
Tickets
Conclusion: To account for the
effect of ticket prices on the demand
for the main profit center (food), the
theater owner drives down the ticket
price.
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Marginal Revenue
Production and Cost
Multistage Production Is Common
This is not the same as joint production
of more than one product
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Production and Cost
Multiple Stages in Production
 The TV broadcast
Network
The game on the field
Team
Capital
Players
Capital
Equipment
 The viewer
Cable Operator
F(x)
Equipment
Labor
F(x)
TV
Sports
What’s better for this process,
one firm or two?
Disney  Pixar, or Disney/Pixar?
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Production and Cost
The Costs of Production
 Fixed cost: Not a function of output. Capital
 Sunk cost: One time, nonrecoverable costs
(Often very significant in the movie business)
 Variable cost: Variable with respect to output
 Labor
 Materials
 Marginal cost: Avoidable cost of one more (less) unit
 Operating Profit = Gross Revenue - Costs
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Production and Cost
Movie Cost and Revenue Trends
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2002-2004: Revenue growth from $115M to $130M
2002-2004: Cost growth from $111M to $130M
 65% due to production and marketing
 20% rising home video manufacturing costs
 15% due to higher “talent participation”
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Production and Cost
Box Office Revenue
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Production and Cost
Production Costs
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Production and Cost
2003
(2003)
Marketing Costs: $ 85M
U.S. Box Office: $ 150M
World incl. US: $ 417M
(#113 all time – on a list that does not correct
for inflation, currency, or anything else.)
Rights: WB
50M
Sony
75M
http://www.slideshare.net/MissConnell/film-distribution-costs
http://www.edwardjayepstein.com/x-rar1.htm
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Production and Cost
2004
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Production and Cost
2000
2001
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Production and Cost
Changing Economics for Stars
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Before 2010: $10M, $15M, $20M, …
Trend since about 2010:
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Why?
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Small or no up front
Except for Angelina Jolie – first choice for Gravity
but could not agree on a deal. Sandra Bullock got
$20M for signing. Unusual now.
CB 0 contract (Cash-Break zero – percentage after
break even)
Far smaller total compensation for start
Economics of film making
Falling demand for star power in movies
Production and Cost
Production cost
Exhibitors
Sandra Bullock
$100M
At least $300M
$ 77M = $20M + 15% x Studio net (45% )
+ Misc TV, DVD, etc.
George Clooney
?
Net so far
$231M - ?
Promotion and advertising ? Probably $50M - $100M
Other distribution
?
SUCH “FIRST DOLLAR” GUARANTEED BOX OFFICE DEALS FOR ACTORS ARE BECOMING RARE,
THE HOLLYWOOD REPORTER SAID, BECAUSE STUDIOS NOW WANT TO RECOUP ALL THE COSTS
FOR EXPENSIVE PRODUCTIONS BEFORE SHARING THE PROFITS WITH TALENT.
BULLOCK’S CO-STAR GEORGE CLOONEY, GRAVITY DIRECTOR ALFONSO CUARÓN AND PRODUCER
DAVID HEYMAN ARE ALSO BELIEVED TO HAVE “BACK END” PAY DEALS.
HTTP://WWW.INDEPENDENT.CO.UK/ARTS-ENTERTAINMENT/FILMS/NEWS/GRAVITY-STAR-SANDRA-BULLOCK-SET-TOEARN-70M-WINDFALL-FOR-OSCARNOMINATED-FILM-9157448.HTML
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Production and Cost
CD Costs and Profits
.75 1.40
2.15
.86 1.08 1.29 .70
Consumer
Retailer
$6.20
Record Label
$10.80
1.94
.59
1.36
1.36
2.55
.97
Fixed Costs
Variable Costs
Sunk Costs
Operating Profit
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Production and Cost
Production and Cost Functions?
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Production and Cost
Economies of Scale
 Working definition: Declining average cost
 Market based definition: Competitive advantage of
large size
 Sources
 Supply based: Technical,
 Demand based: Networks
 Indivisibilities: Lumpiness
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Production and Cost
Economies of Scale in E&M
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Cablevision
Professional sports
Publishing/Movies – Backlists of titles
Casinos
Movies
Television
Production and Cost
Economies of Scope
 Cost effect
 C(Q1,Q2) < C(Q1,0) + C(0,Q2)
 Cablevision and Newsday
 Applications
 Cable TV, Internet
 Mobile phone network
 Basketball, Hockey
 Not the effect behind vertical integration
 News media owning the sports team?
Sky News motivation for owning Manchester United
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Production and Cost
Technological Advance
(Marginal) Cost Reduction
Digital setup in newspapers
Synthesized instruments in Broadway Musical Orchestras
Digital distribution of movies
Less Cost Reduction in Performance Industries: Baumol’s
Cost Disease of the service sector
Live theater, Orchestra, Education
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Production and Cost
Search Technology - The Long Tail
Reduces the marginal cost of distribution and
promotion.
 Locate the world market for small or obscure
goods – books - information
 A result of the Internet and search technology.
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Production and Cost
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Production and Cost
Labor Saving Technological
Change in Card Games in Casinos
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Production and Cost
Digitizing Entertainment – Technical Advance in
Delivery of Existing Forms
 Music
 MP3 - affects distribution, not creation
 Pop music without musicians.
 Literature:
 E-books – Kindle (Amazon), Nook (B&N)
 E-zines (Slate.com)
 Web based news services (NYTimes.com)
 Movies:
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Creation – digital equipment, Pixar animation
Distribution – digital transmission without film
Distribution – mode Netflix
Exhibition – digital projection (expensive)
Production and Cost
“Book” Production Costs
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Production and Cost
Music Production and Distribution Costs
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Studio quality recording with free software and
without studio or graphic design.
(XBloome: X Marks the Spot.
Distribution, bypassing the labels.
iTunes, SoundCloud
From XBloome's X Marks The Spot website: As
maybe the first album ever, 'X marks the spot'
was produced exclusively using Free Software
(Open Source) and without a professional studio
or graphic designers. With this 'proof of concept'
album, XBloome have debunked several
prejudices about feasibility, professionality and
quality of free and self-made productions.“
(www.xbloome.com)
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Production and Cost
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Production and Cost
Who should bear the cost?
(About $75,000/screen)
Film makers?
Distributors?
Exhibitors?
Equipment makers?
New York State?
The conversion is over 80%
complete in the U.S.
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Production and Cost
http://www.rollingstone.com/movies/news/how
-digital-conversion-is-killing-independentmovie-theaters-20130904
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Production and Cost
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Production and Cost
3D - The Next
New Thing
2D Format: Existing projecting systems; 20 new
movies in 2008-2010.
3D Format: About 1000 existing projection systems
plus 250 IMAX. Requires digital projection.
“It’s not always as good as they say it is…”
“I’m not so sure our customers even know we have
it…” Theater owner, New Mexico.
Can it be priced?
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Production and Cost
Theater owners
cannot price digital.
PRICING MOVIE TECHNOLOGY
General
Seniors
Children
Cabin in the Woods (Georgetown)
12
11
9
th
Cabin in the Woods (7 & H)
(Not digital)
12
9.25
9
th
Loews on 84 St. New York
13
9.50
9.50
Titanic Imax
18
17
15
Titanic Real 3D
16
15
13
Wrath of the Titans in Real 3D
16
15
13
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Production and Cost
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Production and Cost
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Production and Cost
http://www.marketplace.org/topics/business/movie-theaters-move-beyond-ticket-price
The simple explanation is that fewer
people are going to the movies, but
they are paying more for their tickets.
Mostly we're talking about 3-D
movies, which are more expensive.
But higher ticket prices aren't
necessarily great news for theater
owners. Theaters have to share box
office revenue with studios, says
business professor William Greene
of the Stern School of Business at
NYU.
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Production and Cost
3D Economics
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30 3D Movies
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“Avatar” - $250M
Benefit: Net addition to profit $80M (Dreamworks)
Obstacle: Digital Projection
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Insufficient screens (3000 needed for an opening)
Uncertain financing for theater digital projection (financial crisis)
Pricing the Upgrade ($25 tickets)
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Production and Cost
3D can be priced. “Digital” cannot.
3D
2D
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Production and Cost