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In most occurrences, lower production costs translate into lower sales costs. Obviously there are other factors that influence price, including perceived value (affected by advertising), monopolies, and so on.

However there are many companies that produce films that vary greatly in budget. For instance, the Blair Witch Project came out in 1999 with a budget of \$60,000. The same year, Star Wars Episode 1 came out with a budget of \$115 million. That's almost 2000 times more expensive. Yet the two films sat side by side in the box office charging the same amount of money per viewing.

Why don't the makers of super-low-budget films undercut the big budget films?

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I am pretty sure that it is not the film producers but the theathers that set the ticket prices. Despite this the question is still valid. – denesp Jan 14 at 16:35
    
@denesp I heard otherwise. My understanding is that most of the box office price goes to the film producers. Theaters make most of their money from concessions (unverified source). – JSideris Jan 14 at 17:57
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"In most occurrences, lower production costs translate into lower sales costs" - really? Production costs influence the minimum viable price at which a product can be profitable, and the viability of a competitor joining the market; but supply and demand drive the actual cost. When the production cost of $150 fashionable sneakers drops from $1.20 per unit to $0.80 per unit, that doesn't stop the price going up... – user568458 Jan 14 at 18:34
    
@Bizorke It is possible that 90% of the proceeds go to the studio yet it is still the theather that sets prices. You may be right, but it would surprise me because then different studios should try to undercut each other's price all the time. – denesp Jan 14 at 19:02
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@Bizorke if you know that in saturated, competitive market something particular should happen, and you observe that it is actually not happening in practice, then you simply have evidence that the competition between movies (and movie studios) and ticket pricing is not like a saturated competitive commodity market. Just as many other markets, e.g. fashionable sneakers. – Peteris Jan 14 at 21:27
up vote 16 down vote accepted

Opportunity Cost of the Seats

Once the movie is made the cost of production is sunk and irrelevant to the proper pricing of tickets. Only the marginal costs of serving an additional customer and the opportunity cost of showing a different film would enter into ticket pricing. Since cinemas should be setting the number of screens for each movie so that the opportunity costs of the seats are equated across films, this makes them want to charge the same for all films. In support of this idea, I offer that movies do vary in price by time of day. This is a rational response to the perishability of seats (once the movie starts an empty seat for that show is worthless) and time (of day) varying demand for film-going which varies the opportunity cost of the seats by time of day. The theater can't easily equate the opportunity cost across time the way it can across films.

At the Movies: The Economics of Exhibition Contracts (Filson, Switzer, and Besocke (2004)) provides the following explanation:

Practitioners provide several explanations for inflexible ticket prices. Exhibitors want to avoid menu costs and eliminate consumer uncertainty about what the movie will cost. Exhibitors do not increase prices of hits because they are engaged in repeat business with local consumers, and the potential loss of goodwill from increased prices outweighs the potential gain. Charging different prices for different movies at multiplexes necessitates employing monitors to ensure that consumers see the movies they pay for. Even offering mid-week discounts may lead to more time shifting than new demand. Not all analysts or practitioners agree that inflexible prices are optimal (see Orbach and Einav 2001), although it seems unlikely that such an easy-to-exploit profit opportunity would persist. Some practioners have experimented with non-uniform prices in the U.S. in the recent past but inflexible prices remain the norm.

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Yes, prices are generally made based on value, not on cost. A good movie is better value and might command a higher price, though. – boot4life Jan 14 at 19:52
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@boot4life for a cinema, the scarce supply is seats, not sessions of a particular movie - if move A is better than B and can command a higher price, then they will simply show the better movie instead. In essence, the economic supply "rebalances" as you get more of movie A, less of movie B and the market prices equalize. – Peteris Jan 14 at 21:22
    
Although it's true that the production cost is sunk once the cinema starts thinking about ticket prices, one could flip the question around and ask, "why do big-budget movies ever get made, given that the ticket prices don't increase to cover the costs of production and "therefore" you get paid just as much for supplying a cheap one as an expensive one?". I think that modified version of the question represents the same doubt on the part of the questioner, and of course the answer is that they aren't really interchangeable for various reasons :-) – Steve Jessop Jan 15 at 0:40
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@SteveJessop because high-budget movies tend to get more views than low-budget movies. – Jan Dvorak Jan 15 at 3:46

lower production costs translate into lower sales costs

Not as such, because you're looking at the total budget for making a movie and all the copies of it needed to distribute and show it many, many times. "The latest iPhone" cost a lot more in total to research, design and manufacture all the units, than my house did. But my house is a lot more expensive than an iPhone, because the iPhone has lots of buyers sharing the costs, and my house had only one. So there is no such direct relation between the total budget of bringing a new product to market, and the per-unit retail price of the product. All else being equal there would be, but all else is not equal.

The price you have to charge to cover costs depends on development costs per unit sold, not just the total budget, plus marginal costs of production. The marginal cost of providing a cinema seat is basically the same regardless of what film is showing (assuming the same kind of projection and sound). So that's a large chunk of the ticket price that not only has nothing to do with the budget on which the movie was made (which in any case as BKay says is a sunk cost), but doesn't even feed into the calculation in advance of whether it's worthwhile making a movie with a particular budget and particular expected audience size.

To plan for your movie to cover its development costs you have two options: charge more per viewer or find more viewers. Big-budget movies aggressively pursue the latter option and therefore (they hope) don't need to do the former. Meanwhile, movies with a smaller expected audience are constrained, by the fact that there's only so much they can charge per ticket, to lower budgets.

In fact, since prices don't vary much by by movie, we can very roughly (and with caution due to some of the "clever" accounting that goes on around movies) compare how much movies cost to make per seat by looking at the ratio between its budget and its box office. We see plenty of big-budget movies with decently high ratios (which therefore, to cover costs, could actually have charged less per seat than they actually did), and we see plenty of mid- and low-budget movies that make a loss and therefore achieved a ratio of less than one (and therefore, to cover costs, would have had to charge more than they actually did). I don't know what direction the correlation ends up being, if any, but it's clearly not the case that by all charging the same prices big-budget movies are uniformly under-charging and/or low-budget movies are uniformly over-charging. If that was the case then low-budget movies would be consistently more profitable (by this rough metric) than big-budget movies, and they aren't.

On the demand side, a viewer chooses what movie they want to watch partly on price and partly on the value to them of seeing the movie. BKay's answer goes into some detail of why it's undesirable for the movie-makers or the cinemas to do too much by way of varying prices. I hope I've explained why it is that they can actually achieve that without the difference in movie budgets getting in the way.

You ask in a comment:

in a saturated, competitive market suppliers can compete by lowering their prices. A reduction in production cost means they can do so without reducing margins. Are you saying this intuition is incorrect more times than not?

Not "more times than not", just "not in the case of movies". Taking two arbitrary examples of science-fiction movies, there is no price point, not even 0, at which "Under the Skin" (budget 13 million USD, and which made a loss at the box office) could have achieved the same number of bums on seats as "The Force Awakens" (budget 200 million, box office north of 1.5 billion and still counting). The former is either a niche product, or an inferior product, or both, and if you could draw up the demand curves of the two movies they'd be drawing on completely different demand: these aren't "the same goods". Further, you would not find a strategy by which either of them gets anything much out of competing with each other on price. Not that they were even in the cinema at the same time, but even if they had been they are too distinct to use a simple model of a customer looking at both and picking the cheaper, despite the fact that individual customers do frequently find themselves in a cinema picking a movie. If there was a means by which "Under the Skin" could satisfy all that "Force Awakens" demand, then sure, it would seriously look into it, but they aren't fungible commodities.

On a loosely-related topic, note that cinemas in any case try to cater to a lot of price sensitivity among customers, by giving them the opportunity to drop a heap of cash on food and drink. Therefore (within a certain range) customers who might be tempted to see a cheaper movie than the average are in fact already in the door. They just aren't having popcorn.

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> Under the Skin | 2013 film | 6.3/10 IMDb | 85% Rotten Tomatoes | 78% Metacritic | An alien (Scarlett Johansson) disguised as a human woman lures unsuspecting Scotsmen into her van. – Jan Dvorak Jan 15 at 3:50
    
A very interesting analysis in your closing remarks. I wonder if there is a correlation to movie production budget (or moviegoer expectations) and popcorn consumption. – JSideris Jan 15 at 8:05

The price of the tickets doesn't make much difference to the movie theater, because generally many contracts with the distributors are based on split of profits. High budget movies generally takes home almost all profit on launch weeks and decrease week by week. Low budget movies the split is more balanced and gives the theater more profit since the launch, but they don't fill all the seats.

In general, the theater will make money with big box movies only after a few weeks, and gives more profit than LB movies because the amount of tickets sold are much higher.

Some theaters earn more money from snacks sales than the movies.

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