Entertainment Industry EconomicsA Guide for Financial Analysis, Eighth EditionThe entertainment industry is one of the largest sectors of the U.S. econ-omy, and it is fast becoming equally important globally. The eighth edi-tion of Entertainment Industry Economics updates material presented inprevious editions and includes new sections on the legal aspects and lim-itations common to all such “experience” industries and on the emergingﬁeld of the psychology of entertainment. In addition, coverage of music,advertising, gaming and wagering, sports, and ﬁnance more generally hasbeen broadened. The result is a comprehensive reference guide on the eco-nomics, ﬁnancing, production, and marketing of entertainment in the UnitedStates and overseas. Investors, business executives, accountants, lawyers,arts administrators, and general readers will ﬁnd that this book offers aninvaluable guide to how entertainment industries operate.Harold L. Vogel is author of Financial Market Bubbles and Crashes(Cambridge University Press, 2010) and Travel Industry Economics: A Guidefor Financial Analysis (Cambridge University Press, 2001), a companionvolume to this textbook. He was senior entertainment industry analyst atMerrill Lynch & Co. for 17 years and was ranked as top entertainmentindustry analyst for 10 years by Institutional Investor magazine. He earnedhis Ph.D. in ﬁnancial economics from the University of London; has taughtat Columbia University, The Cass Business School, and the University ofSouthern California; and currently heads an independent investment andconsulting ﬁrm in New York City.
EntertainmentIndustryEconomicsA Guide for Financial AnalysisEIGHTH EDITIONHarold L. Vogel
CAMBRIDGE UNIVERSITY PRESSCambridge, New York, Melbourne, Madrid, Cape Town, Singapore,S˜ o Paulo, Delhi, Dubai, Tokyo, Mexico City aCambridge University Press32 Avenue of the Americas, New York, NY 10013-2473, USAwww.cambridge.orgInformation on this title: www.cambridge.org/9781107003095C Harold L. Vogel 1986, 1990, 1994, 1998, 2001, 2004, 2007, 2011This publication is in copyright. Subject to statutory exceptionand to the provisions of relevant collective licensing agreements,no reproduction of any part may take place without the writtenpermission of Cambridge University Press.First edition 1986Second edition 1990Third edition 1994Fourth edition 1998Fifth edition 2001Sixth edition 2004Seventh edition 2007Eighth edition 2011Printed in the United States of AmericaA catalog record for this publication is available from the British Library.Library of Congress Cataloging in Publication dataVogel, Harold L., 1946–Entertainment industry economics: a guide for ﬁnancial analysis /Harold L. Vogel. – 8th ed. p. cm.Includes bibliographical references and index.ISBN 978-1-107-00309-51. Performing arts – Finance. I. Title.PN1590.F55V6 2011338.4 7791–dc22 2010040291ISBN 978-1-107-00309-5 HardbackCambridge University Press has no responsibility for the persistence or accuracy of URLs forexternal or third-party Internet Web sites referred to in this publication and does not guarantee thatany content on such Web sites is, or will remain, accurate or appropriate.
TO MY DEAR FATHER– WHO WOULD HAVE BEEN SO PROUD
ContentsPreface page xixPart I IntroductionChapter 1 Economic perspectives 3 1.1 Time concepts 3 Leisure and work 3 Recreation and entertainment 4 Time 5 Expansion of leisure time 5 1.2 Supply and demand factors 9 Productivity 9 Demand for leisure 11 Expected utility comparisons 13 Demographics and debts 14 Barriers to entry 15 vii
viii Contents 1.3 Primary principles 17 Marginal matters 17 Price discrimination 20 Public good characteristics 20 1.4 Personal-consumption expenditure relationships 21 1.5 Industry structures and segments 25 Structures 25 Segments 26 1.6 Valuation variables 30 Discounted cash ﬂows 31 Comparison methods 31 Options 32 1.7 Concluding remarks 32Notes 34Selected additional reading 39Chapter 2 Basic elements 41 2.1 Psychological roots 41 2.2 Rules of the road 42 Laws of the media 42 Network features 44 2.3 Legal layers and limitations 46 Layers 46 Limitations and concentration issues 46 2.4 The Internet 47 Agent of change 47 Long tail effects 49 2.5 Advertising 51 Functionality 52 Economic and business aspects 53 2.6 Accounting and valuation 55 Accounting 55 Valuation 55 2.7 Concluding remarks 56Notes 56Selected additional reading 65
Contents ixPart II Media-dependent entertainmentChapter 3 Movie macroeconomics 71 3.1 Flickering images 72 3.2 May the forces be with you 74 Evolutionary elements 74 Technology 74 Capital 77 Pecking orders 78 Exhibition 78 Production and distribution 79 3.3 Ups and downs 80 Admission cycles 80 Prices and elasticities 83 Production starts and capital 83 Releases and inventories 86 Market-share factors 86 Collateral factors 87 Exchange-rate effects 87 Trade effects 92 Financial aggregates 94 3.4 Markets – Primary and secondary 95 3.5 Assets 99 Film libraries 99 Technology 99 Utilization rates 101 Interest and inﬂation rates 102 Collections and contracts 102 Library transfers 103 Real estate 103 3.6 Concluding remarks 106Notes 106Selected additional reading 112Chapter 4 Making and marketing movies 114 4.1 Properties – Tangible and intangible 114 4.2 Financial foundations 116 Common-stock offerings 117 Combination deals 117
x Contents Limited partnerships and tax shelters 118 Bank loans 120 Private equity and hedge funds 121 4.3 Production preliminaries 122 The big picture 122 Labor unions 125 4.4 Marketing matters 126 Distributors and exhibitors 126 Sequencing 126 Distributor–exhibitor contracts 127 Release strategies, bidding, and other related practices 131 Exhibition industry characteristics: (a) Capacity and competition 132 (b) Rentals percentages 135 Home video, output deals, and merchandising 137 Home video 137 Output deals 141 Merchandising 141 Marketing costs 141 4.5 Economic aspects 142 Proﬁtability synopsis 142 Theoretical foundation 144 4.6 Concluding remarks 146Notes 147Selected additional reading 172Chapter 5 Financial accounting in movies and television 178 5.1 Dollars and sense 178 Contract clout 178 Orchestrating the numbers 179 5.2 Corporate overview 180 Revenue-recognition factors 180 Inventories 181 Amortization of inventory 182 Unamortized residuals 184 Interest expense and other costs 184 Calculation controversies 185 Statement of Position 00–2 186 5.3 Big-picture accounting 189 Financial overview 189
Contents xi Participation deals 193 Pickups 194 Coproduction–distribution 195 Talent participations and breakeven 195 Producers’ participations and cross-collateralizations 199 Home video participations 200 Distributor–exhibitor computations 200 Distributor deals and expenses 202 Studio overhead and other production costs 204 Truth and consequences 205 5.4 Television-programming accounting 209 Feature licensing 209 Program production and distribution 210 Development and ﬁnancing processes 210 Syndication agreements 212 Costs of production 215 Costs and problems of distribution 217 Timing troubles 218 5.5 Weakest links 220 Exhibitors: The beginning and the end 220 Distributor–producer problems 222 5.6 Concluding remarks 222Notes 223Selected additional reading 242Chapter 6 Music 244 6.1 Feeling groovy 244 6.2 Size and structure 247 Economic interplay 247 The American scene 247 The global scene 252 Composing, publishing, and managing 252 Royalty streams 254 Performances 254 Mechanical royalties 255 Synchronization fees 255 Copyright 255 Guilds and unions 256 Concerts and theaters 257 6.3 Making and marketing recordings 258 Deal-maker’s delight 258
xii Contents Production agreements 258 Talent deals 259 Production costs 260 Marketing costs 260 Distribution and pricing 261 Structure 261 Pricing 263 6.4 Financial accounting and valuation 263 Artists’ perspective 264 Company perspective 267 Valuation aspects 269 6.5 Concluding remarks 270Notes 271Selected additional reading 284Chapter 7 Broadcasting 287 7.1 Going on the air 287 Technology and history 287 Basic operations 290 Regulation 293 Organizational patterns and priorities 295 Networks and afﬁliates 295 Ratings and audiences 296 Inventories 299 Independent and public broadcasting stations 300 7.2 Economic characteristics 301 Macroeconomic relationships 301 Microeconomic considerations 303 7.3 Financial-performance characteristics 304 Variable cost elements 304 Financial-accounting practices 305 7.4 Valuing broadcast properties 307 7.5 Concluding remarks 310Notes 311Selected additional reading 322Chapter 8 Cable 328 8.1 From faint signals 328 Pay services evolve 329
Contents xiii 8.2 Cable industry structure 333 Operational aspects 333 Franchising 334 Revenue relationships 337 8.3 Financial characteristics 339 Capital concerns 339 Accounting conventions 342 8.4 Development directions 343 Pay-per-view 343 Cable’s competition 344 DBS/DTH 345 MMDS/LMDS 345 SMATV 345 STV 345 Telephone companies 346 8.5 Valuing cable-system properties 346 8.6 Concluding remarks 348Notes 349Selected additional reading 356Chapter 9 Publishing 360 9.1 Gutenberg’s gift 360 First words 360 Operating characteristics 361 9.2 Segment speciﬁcs 364 Books 364 Educational and professional 364 Trade 365 Periodicals 367 Newspapers 367 Magazines and other periodicals 369 Multimedia 370 9.3 Accounting and valuation 372 Accounting 372 Valuation 373 9.4 Concluding remarks 373Notes 373Selected additional reading 377
xiv ContentsChapter 10 Toys and games 38110.1 Not just for kids 381 Financial ﬂavors 382 Building blocks 38510.2 Chips ahoy! 386 Slots and pins 388 Pong: Pre and apr` s e 38810.3 Structural statements 389 Home video games 389 Proﬁt dynamics 391 Coin-op 39210.4 Concluding remarks 393Notes 394Selected additional reading 401Part III Live entertainmentChapter 11 Gaming and wagering 40711.1 From ancient history 407 At ﬁrst 407 Gaming in America 408 Preliminaries 408 The Nevada experience 410 Enter New Jersey 411 Horse racing 413 Lotteries 414 Indian reservations, riverboats, and other wagering areas 41411.2 Money talks 419 Macroeconomic matters 419 Funding functions 421 Regulation 422 Financial performance and valuation 42311.3 Underlying proﬁt principles and terminology 424 Principles 424 Terminology and performance standards 42611.4 Casino management and accounting policies 429 Marketing matters 429 Cash and credit 431 Procedural paradigms 432
Contents xv11.5 Gambling and economics 43411.6 Concluding remarks 436Notes 436Selected additional reading 443Chapter 12 Sports 44812.1 Spice is nice 448 Early innings 448 Media connections 450 The wagering connection 45212.2 Operating characteristics 453 Revenue sources and divisions 453 Labor issues 45512.3 Tax accounting and valuation 456 Tax issues 456 Historical development 457 Current treatments 458 Asset valuation factors 45912.4 Sports economics 45912.5 Concluding remarks 462Notes 463Selected additional reading 472Chapter 13 Performing arts and culture 47913.1 Audiences and offerings 479 Commercial theater 480 On and off Broadway 480 The circus 486 Orchestras 486 Opera 487 Dance 48713.2 Funding sources and the economic dilemma 48713.3 The play’s the thing 490 Production ﬁnancing and participations 490 Operational characteristics 49213.4 Economist echoes 494 Organizational features 494 Elasticities 495
xvi Contents Price discrimination 495 Externalities 49613.5 Concluding remarks 496Notes 497Selected additional reading 503Chapter 14 Amusement/theme parks 50814.1 Flower power 508 Gardens and groves 508 Modern times 50914.2 Financial operating characteristics 51014.3 Economic sensitivities 51514.4 Valuing theme park properties 51714.5 Concluding remarks 518Notes 519Selected additional reading 520Part IV RoundupChapter 15 Performance and policy 52515.1 Common elements 52515.2 Public policy issues 52815.3 Guidelines for evaluating entertainment and media securities 529 Cash ﬂows and private market values 531 Debt/equity ratios 532 Price/earnings ratios 532 Price/sales ratios 532 Enterprise values 532 Book value 53315.4 Final remarks 533Appendix A: Sources of information 535Appendix B: Major games of chance 537Blackjack 537Craps 538Roulette 540
Contents xviiBaccarat 540Slots 541Other casino games 542 Poker 542 Keno 543 Big Six Wheel 543 Bingo 543 Pai gow, fan tan, and sic bo 543 Pan 544 Trente-et-quarante (Rouge et Noir) 544Lotteries 545Tracks 546Sports book 546Notes 548Appendix C: Supplementary data 549Glossary 563References 587Index 627
Preface en·ter·tain·ment – the act of diverting, amusing, or causing someone’s time to pass agreeably; something that diverts, amuses, or occupies the attention agreeably. in·dus·try – a department or branch of a craft, art, business, or manufacture: a division of productive or proﬁt-making labor; especially one that employs a large personnel and capital; a group of productive or proﬁt-making enterprises or organizations that have a similar technological structure of production and that produce or supply technically substitutable goods, services, or sources of income. ec·o·nom·ics – a social science that studies the production, distribution, and consumption of commodities; considerations of cost and return. Webster’s Third New Unabridged International Dictionary, G. & C. Merriam Company, Springﬁeld, Massachusetts, 1967.Each year Americans cumulatively spend at least 140 billion hours and morethan $280 billion on legal forms of entertainment. And globally, total annualspending is approaching one trillion dollars. So we might begin by asking:What is entertainment, why is there so much interest in it, and what do itsmany forms have in common? At the most fundamental level, anything that stimulates, encourages, orotherwise generates a condition of pleasurable diversion could be calledentertainment. The French word divertissement perhaps best captures thisessence. But entertainment can be much more than mere diversion. It is somethingthat is universally interesting and appealing because, when it does what itis intended to do, it moves you emotionally. As the Latin root verb tenaresuggests, it grabs you: It touches your soul. xix
xx Preface Although life is full of constraints and disciplines, responsibilities andchores, and a host of things disagreeable, entertainment, in contrast, encom-passes activities that people enjoy and look forward to doing, hearing, orseeing. This is the basis of the demand for – or the consumption of – enter-tainment products and services; this is the primary attribute shared by themany distinct topics – from cinema to sports, from theme parks to theater –that are discussed in the pages that follow. Entertainment – the cause – is thus obversely deﬁned through its effect: asatisﬁed and happy psychological state. Yet, somehow, it matters not whetherthe effect is achieved through active or passive means. Playing the piano canbe just as pleasurable as playing the stereo. Entertainment indeed means so many different things to so many peoplethat a manageable analysis requires sharper boundaries to be drawn. Suchboundaries are here established by classifying entertainment activities intoindustry segments, that is, enterprises or organizations of signiﬁcant sizethat have similar technological structures of production and that produce orsupply goods, services, or sources of income that are substitutable. Classiﬁcation along those lines facilitates contiguous discussion of enter-tainment software, as we might more generically label ﬁlms, recordings, andvideo games, and of hardware – the physical appurtenances and equipmenton which or in which the software’s instruction sets are executed. Such clas-siﬁcation also allows us to trace more easily the effects of technologicaldevelopments in this ﬁeld. So accustomed are we now to continuous improvements in the per-formance of entertainment hardware and software that we have troubleremembering that, early in the twentieth century, moving pictures and musicrecordings were novelties, radio was regarded as a modern-day miracle, andtelevision was a laboratory curiosity. Simple transistors and lasers had yetto be invented, and electronic computers and earth-orbiting communicationssatellites were still in the realm of science ﬁction. These fruits of applied technology have nevertheless spawned new artforms and vistas of human expression and have brought to millions of peoplearound the world, virtually at the ﬂick of a switch, a much more varied andhigher-quality mix of entertainment than had ever before been imaginedfeasible. Little or none of this, however, has happened because of ars gratia artis(art for art’s sake) – in itself a noble but ineffectual stimulus for techno-logical development. Rather, it is economic forces – proﬁt motives, if youwill – that are always behind the scenes, regulating the ﬂows and ratesof implementation. Those are the forces that shape the relative popularityand growth patterns of competing, usually interdependent, entertainmentactivities and products. And those are the forces that ultimately make avail-able to the masses what was previously affordable only by upper incomeclasses. It is therefore surprising to ﬁnd that most serious examinations of theeconomics of entertainment are desultory and scattered among various
Preface xxipamphlets, trade publications and journals, stockbrokers’ reports, and inci-dental chapters in books on other topics. The widely available popular mag-azines and newspapers, biographies, histories, and technical manuals do notgenerally provide in-depth treatments of the subject. This book, then, is a direct outgrowth of my search for a single com-prehensive source. It attempts to present information in a style accessibleand interesting to general readers. And, as such, it should prove to be ahandy reference for executives, ﬁnancial analysts and investors, agents andlegal advisors, accountants, economists, and journalists. To that end, somesupplementary data appear in Appendix C. Yet Entertainment Industry Economics will most likely be used as a text forgraduate or advanced undergraduate students in applied media economicsand management/administration courses in ﬁlm, music, communications,publishing, sports, performing arts, and hotel–casino operations. Instructorsshould ﬁnd it easy to design one-semester courses focused on one or twoareas. A minimum grasp of what entertainment and media economics isall about would require that most students read at least the ﬁrst halves ofChapters 1 and 2 and, at the end of the course, the ﬁrst section of Chapter 15.But many different modules can readily be assembled and tailored. Amongthe most popular would be concentration on ﬁlm, television, and music(Chapters 2 through 8), gaming and sports (Chapters 7, 8, 11, and 12),arts and popular culture (Chapters 6, 7, 9, 10, and 13), or entertainmentmerchandising and marketing (Chapters 2, 7, 9, 10, and 14). The topics covered in the book have been chosen on the basis of industrysize measured in terms of consumer spending and employment, length oftime in existence as a distinct subset, and availability of reliable data. In alarger sense, however, topics have been selected with the aim of providingno more and no less than would be required by a “compleat” entertain-ment and media industry investor. The perspectives are thus inevitably thoseof an investment analyst, portfolio manager, and economist. Although thisdecision-oriented background leads naturally to an approach that is morepractical and factual than highly theoretical, it nevertheless assumes somefamiliarity, supported by the appended glossary, with the language of eco-nomics and ﬁnance. This eighth edition has been further revised and broadened and differs fromits predecessors by inclusion of a new section relating to the legal aspectsand limitations and long tail effects common to all such “experience” indus-tries, reference to the emerging ﬁeld of the psychology of entertainment,partial restructuring of and additions to the music chapter, enhancement ofthe section on advertising, and broadening of coverage in the gaming andwagering chapter. I am especially grateful to Elizabeth Maguire, former editor at CambridgeUniversity Press, for her early interest and conﬁdence in this project. Thanksare also owed to Cambridge’s Rhona Johnson and production editor MichaelGnat, who worked on the ﬁrst edition, to Matthew N. Hendryx, who workedon the second, and to Scott Parris for the third through eighth.
xxii Preface I am further indebted to those writers who earlier cut a path through the sta-tistical forests and made the task of exposition easier than it would have oth-erwise been. Particularly noteworthy are the books of John Owen on demandfor leisure; Paul Baumgarten and Donald Farber on the contractual aspects ofﬁlmmaking (ﬁrst edition; and second with Mark Fleischer); David Leedy onmovie industry accounting; David Baskerville, Sidney Shemel/M. WilliamKrasilovsky, and Donald Passman on the music business; John Scarne andBill Friedman on the gaming ﬁeld; Gerald W. Scully and Andrew Zimbaliston sports; and William Baumol and William Bowen on the performing arts.Extensive ﬁlm industry commentaries and data collections by A. D. Murphyof Variety (and later, The Hollywood Reporter and the University of SouthernCalifornia) were important additional sources. My thanks also extend to the following present and former senior industryexecutives who generously took time from their busy schedules to reviewand to advise on sections of the ﬁrst edition draft. They and their companyafﬁliations, at that time, were Michael L. Bagnall (The Walt Disney Com-pany), Jeffrey Barbakow (Merrill Lynch), J. Garrett Blowers (CBS Inc.),Erroll M. Cook (Arthur Young & Co.), Michael E. Garstin (Orion PicturesCorp.), Kenneth F. Gorman (Viacom), Harold M. Haas (MCA Inc.), HowardJ. Klein (Caesars New Jersey), Donald B. Romans (Bally Mfg.), and JamesR. Wolford (The Walt Disney Company). Greatly appreciated, too, was thecomprehensive critique provided by my sister, Gloria. Acknowledgmentsfor data in the second edition are also owed to Arnold W. Messer (ColumbiaPictures Entertainment) and Angela B. Gerken (Viacom). Although every possible precaution against error has been taken, for anymistakes that may inadvertently remain the responsibility is mine alone. I’ve been most gratiﬁed by the success of the previous editions and, asbefore, my hopes and expectations are that this work will provide valuableinsights and a thoroughly enjoyable adventure. Now . . . on with the show. Harold L. Vogel New York City November 2010
1Economic perspectives To everything there is a season, and a time to every purpose under the heaven. – EcclesiastesExtending this famous verse, we can also say that there is a time for workand a time for play. There is a time for leisure. An important distinction, however, needs to be made between the pre-cise concept of a time for leisure and the semantically different and muchfuzzier notion of leisure time, our initial topic. In the course of exploring thissubject, the fundamental economic forces that affect spending on all formsof entertainment will be revealed, and our understanding of what motivatesexpenditures for such goods and services will be enhanced. Moreover, theperspectives provided by this approach will enable us to see how entertain-ment is deﬁned and how it ﬁts into the larger economic picture.1.1 Time conceptsLeisure and workPhilosophers and sociologists have long wrestled with the problem of deﬁn-ing leisure – the English word derived from the Latin licere, which means “tobe permitted” or “to be free.” In fact, as Kraus (1978, p. 38) and Neulinger 3
4 1 ECONOMIC PERSPECTIVES(1981, pp. 17–33) have noted, leisure has usually been described in termsof its sociological and psychological (state-of-mind) characteristics.1 Andclosely tied in to this is the more recent notion that “play” is a fundamentalaspect of life.2 The classical attitude was epitomized in the work of Aristotle, for whomthe term leisure implied both availability of time and absence of the necessityof being occupied (De Grazia 1962, p. 19). According to Aristotle, that veryabsence is what leads to a life of contemplation and true happiness – yetonly for an elite few, who do not have to provide for their own daily needs.Veblen (1899) similarly saw leisure as a symbol of social class. To him,however, it was associated not with a life of contemplation, but with the “idlerich,” who identiﬁed themselves through its possession and its use. Leisure has more recently been conceptualized either as a form of activityengaged in by people in their free time or, preferably, as time free from anysense of obligation or compulsion.3 As such, the term leisure is now broadlyused to characterize time not spent at work (where there is an obligationto perform). Naturally, in so deﬁning leisure by what it is not, metaphysicalissues remain largely unresolved. There is, for instance, a question of howto categorize work-related time such as that consumed in preparation for,and in transit to and from, the workplace. And sometimes the distinctionsbetween one person’s vocation and another’s avocation are difﬁcult to draw:People have been known to “work” pretty hard at their hobbies. Although such problems of deﬁnition appear quite often, they fortunatelydo not affect analysis of the underlying structures and issues.Recreation and entertainmentIn stark contrast to the impressions of Aristotle or Veblen, today we rarely,if ever, think of leisure as contemplation or as something to be enjoyed onlyby the privileged. Instead, “free” time is used for doing things and goingplaces, and the emphasis on activity corresponds more closely to the notionof recreation – refreshment of strength or spirit after toil – than to the viewsof the classicists. The availability of time is, of course, a precondition for recreation, whichcan be taken literally as meaning re-creation of body and soul. But becausesuch active re-creation can be achieved in many different ways – by playingtennis, or by going ﬁshing, for example – it encompasses aspects of bothphysical and mental well-being. As such, recreation may or may not containsigniﬁcant elements of amusement and diversion or occupy the attentionagreeably. For instance, amateurs training to run a marathon might arguablybe involved in a form of recreation. But if so, the entertainment aspect wouldbe rather minimal. As noted in the Preface, however, entertainment is deﬁned as that whichproduces a pleasurable and satisfying experience. The concept of entertain-ment is thus subordinate to that of recreation: It is more speciﬁcally deﬁnedthrough its direct and primarily psychological and emotional effects.
1.1 Time concepts 5TimeMost people have some hours left over – “free time,” so to speak – aftersubtracting the hours and minutes needed for subsistence (mainly eating andsleeping), for work, and for related activities. But this remaining time has acost in terms of alternative opportunities forgone. Because time is needed to use or to consume goods and services, aswell as to produce them, economists have attempted to develop theoriesthat treat it as a commodity with varying qualitative and quantitative costfeatures. However, as Sharp (1981) notes in his comprehensive coverage ofthis subject, economists have been only partially successful in this attempt:Although time is commonly described as a scarce resource in economic literature, it is stilloften treated rather differently from the more familiar inputs of labor and materials andoutputs of goods and services. The problems of its allocation have not yet been fully orconsistently integrated into economic analysis. (p. 210)Nevertheless, investigations into the economics of time, including those ofBecker (1965) and DeSerpa (1971), have suggested that the demand for leisureis affected in a complicated way by the cost of time both to produce and toconsume. For instance, according to Becker (see also Ghez and Becker 1975),The two determinants of the importance of forgone earnings are the amount of time usedper dollar of goods and the cost per unit of time. Reading a book, getting a haircut, orcommuting use more time per dollar of goods than eating dinner, frequenting a nightclub,or sending children to private summer camps. Other things being equal, forgone earningswould be more important for the former set of commodities than the latter. The importance of forgone earnings would be determined solely by time intensity onlyif the cost of time were the same for all commodities. Presumably, however, it variesconsiderably among commodities and at different periods. For example, the cost of time isoften less on weekends and in the evenings. (Becker 1965, p. 503)From this it can be seen that the cost of time and the consumption-timeintensity of goods and services (e.g., intensity, or commitment, is usuallyhigher for reading a book than for reading a newspaper) are signiﬁcant factorsin selecting from among entertainment alternatives.Expansion of leisure timeMost of us do not normally experience sharp changes in our availabilityof leisure time (except on retirement or loss of job). Nevertheless, there isa fairly widespread impression that leisure time has been trending steadilyhigher ever since the Industrial Revolution of more than a century ago. Yetthe evidence on this is mixed. Figure 1.1 shows that in the United States thelargest increases in leisure time – workweek reductions – for agricultural andnonagricultural industries were achieved prior to 1940. But more recently,the lengths of average workweeks, adjusted for increases in holidays andvacations, have scarcely changed for the manufacturing sector and havealso stopped declining in the services sector (Table 1.1 and Figure 1.2). By
6 1 ECONOMIC PERSPECTIVESTable 1.1. Average weekly hours at work, 1948–2008,aand median weekly hours at work for selected years Average hours at work Median hours at workYear Unadjusted Adjustedb Year Hours1948 42.7 41.6 1975 43.11956 43.0 41.8 1980 46.91962 43.1 41.7 1987 46.81969 43.5 42.0 1995 50.61975 42.2 40.9 2004 50.01986 42.8 2008 46.0a Nonstudent men in nonagricultural industries. Source: Owen (1976, 1988).b Adjusted for growth in vacations and holidays.Source: Harris (1995), www.Harrisinteractive.com for medianhours at work. Average Weekly Hours Average Weekly Hours 75 75 70 70 65 65 Agriculture 60 60 55 55 50 50 ALL INDUSTRIES 45 45 40 40 Nonagriculture 35 35 0 0 1850 60 70 80 90 1900 10 20 30 40 41 42 43 44 45 46 47 48 49 50 51 52 53 54 55 1956Figure 1.1. Estimated average weekly hours for all persons employed in agricultural andnonagricultural industries, 1850–1940 (ten-year intervals) and 1941–1956 (annualaverages for all employed persons, including the self-employed and unpaid familyworkers.) Source: Zeisel (1958).
1.1 Time concepts 7 Weekly hours 42 41 40 39 Manufacturing 38 47 57 67 77 87 97 07 (a) Weekly hours 39 37 36 Services 34 33 31 65 75 85 95 05 (b)Figure 1.2. Average weekly hours worked by production workers in (a) manufacturing,1947–2009, and (b) service industries, 1964–2009. Source: U.S. Department ofCommerce.comparison, average hours worked in other major countries, as illustrated inFigure 1.3, have declined markedly since 1970. Although this suggests that there has been little, if any, expansion ofleisure time in the United States, what has apparently happened instead isthat work schedules now provide greater diversity. As noted by Smith (1986),“A larger percentage of people worked under 35 hours or over 49 hours aweek in 1985 than in 1973, yet the mean and median hours (38.4 and 40.4,respectively, in 1985) remained virtually unchanged.”4 If ﬁndings from public-opinion surveys on Americans and the arts are tobe believed, the number of hours available for leisure may actually at bestbe holding steady.5 Schor (1991, p. 29), however, says that between 1969
8 1 ECONOMIC PERSPECTIVES 2,300 Japan 2,000 U.S. U.K. 1,700 France Germany 1,400 70 75 80 85 90 95 00 05 10Figure 1.3. Average annual hours worked in the United States versus other countries,1970–2009. Source: OECD Employment Outlook.and 1987, “the average employed person is now on the job an additional163 hours, or the equivalent of an extra month a year . . . and that hours haverisen across a wide spectrum of Americans and in all income categories.”6 But Aguiar and Hurst (2006) argue the opposite. And as shown in Table1.2, McGrattan and Rogerson (2004) found that since World War II, thenumber of weekly hours of market work in the United States has remainedroughly constant, even though there have been dramatic shifts in varioussubgroups. Also, Robinson (1989, p. 34), who has measured free time byage categories, found that “most gains in free time have occurred between1965 and 1975 [but] since then, the amount of free time people have hasremained fairly stable.” By adjusting for age categories, the case for anincrease in total leisure hours available becomes much more persuasive.7Table 1.2. Aggregate weekly hours worked per person (+15), 1950–2000 Average weekly hours worked Employment toYear Per person Per worker population ratio (%)1950 22.34 42.40 52.691960 21.55 40.24 53.551970 21.15 38.83 54.471980 22.07 39.01 56.591990 23.86 39.74 60.042000 23.94 40.46 59.17% change, 1950–2000: 7.18 −4.56 12.30Source: McGratten and Rogerson (2004), U.S. Dept. of Commerce, Bureau of theCensus.
1.2 Supply and demand factors 9 In addition, Roberts and Rupert (1995) found that total hours of annualwork have not changed by much but that the composition of labor has shiftedfrom home work to market work, with nearly all the difference attributableto changes in the total hours worked by women. A similar conclusion as toaverage annual hours worked was also reached by Rones, Ilg, and Gardner(1997).8 Yet, as Jacobs and Gerson note (1998, p. 457), “even though the aver-age work week has not changed dramatically in the U.S. over the last severaldecades, a growing group of Americans are clearly and strongly pressed fortime.” In all, it seems safe to say that for most middle-aged and middle-incomeAmericans – and recently for Europeans too – leisure time is probablynot expanding.9 However, no matter what the actual rate of expansion orcontraction may be, there has been a natural evolution toward repackagingthe time set aside for leisure into more long holiday weekends and extravacation days rather than in reducing the minutes worked each and everyweek.10 Particularly for those in the higher-income categories – conspicuous con-sumers, as Veblen would say – the result is that personal-consumption expen-ditures (PCEs) for leisure activities are likely to be intense, frenzied, andcompressed instead of evenly metered throughout the year. Moreover, withsome adjustment for cultural differences, the same pattern is likely to beseen wherever large middle-class populations emerge. Estimated apportionment of leisure hours among various activities andthe changes in such apportionment between 1970 and 2010 are indicated inTable 1.3.11 Table 1.4 shows how Americans on the average allocate leisuretime of around ﬁve hours a day.1.2 Supply and demand factorsProductivityUltimately, though, more leisure time availability is not a function of gov-ernment decrees, labor union activism, or factory-owner altruism. It is afunction of the rising trend in output per person-hour – in brief, the risingproductivity of the economy. Quite simply, technological advances embod-ied in new capital equipment, in the training of a more skilled labor pool,and in the development of economies of scale allow more goods and servicesto be produced in less time or by fewer workers. Thus, long-term growth inleisure-time-related industries depends on the rate of technological innova-tion throughout the economy. Information concerning trends in productivity and other aspects of eco-nomic activity is provided by the National Income and Product Accounting(NIPA) ﬁgures of the U.S. Department of Commerce. According to thoseﬁgures, overall productivity between 1973 and 1990 rose at an average
10 1 ECONOMIC PERSPECTIVESTable 1.3. Time spent by adults on selected leisure activities, 1970 and2009 estimates Hours per person % of total time accounted per yeara for by each activityLeisure activity 1970 2009 1970 2009Television 1,226 1,774 46.5 42.1 Network afﬁliates 668 15.8 Independent stations 17 0.4 Basic cable programs 1,014 24.1 Pay cable programs 75 1.8Radio 872 1,038 33.1 24.6 Home 363 8.6 Out of home 675 16.0Internet 755 17.9Newspapersb 218 108 8.3 2.6Recorded musicc 68 153 2.6 3.6Magazines 170 72 6.5 1.7Leisure books 65 84 2.5 2.0Movies: theaters 10 11 0.4 0.3 home video 44 1.0Spectator sports 3 19 0.1 0.5Video games: home 151 3.6Cultural events 3 6 0.1 0.1Total 2,635 4,215 100.0 100.0dHours per adult per week 50.7 81.1Hours per adult per day 7.2 11.5a Averaged over participants and nonparticipants.b Includes free dailies.c Includes licensed digital music.d Totals not exact because of rounding.Sources: CBS Ofﬁce of Economic Analysis and Wilkofsky Gruen Associates, Inc.Table 1.4. Leisure time on an average day 2008a Minutes % of totalWatching TV 168 56.2Socializing and communicating 38 12.7Playing computer games 20 6.7Reading 20 6.7Other activities 20 6.7Sports, exercise, recreation 17 5.7Relaxing and thinking 16 5.4Total 299 100.0a Includes all persons aged 15+ and all days of the week.Source of data: U.S. Bureau of Labor Statistics www.bls.gov/tvs/charts/leisure.html.
1.2 Supply and demand factors 11 1.5 1.3 1.1 0.9 0.7 0.5 60 70 80 90 00Figure 1.4. Nonfarm business productivity in the United States, 1960–2009, shown byoutput per hour. Index 1992 = 100. Bars indicate periods of recession. Source: U.S.Department of Labor.annual rate of approximately 1.2% as compared with a rate averaging 2.8%between 1960 and 1973 (Figure 1.4). But productivity growth in the 1990srebounded to an average annual rate of 2.0%, thereby implying that thepotential for leisure-time expansion remained fairly steady in the last thirdof the twentieth century.12 This rate of gain was sustained in the ﬁrstdecade of the 2000s, when nonfarm business productivity rose by an annualaverage of approximately 2.5%.Demand for leisureAll of us can choose either to fully utilize our free time for recreationalpurposes (deﬁned here and in NIPA data as being inclusive of entertainmentactivities) or to use some of this time to generate additional income. How weallocate free time between the conﬂicting desires for more leisure and foradditional income then becomes a subject that economists investigate withstandard analytical tools.13 In effect, economists can treat demand for leisureas if it were, say, demand for gold, or for wheat, or for housing. And theyoften estimate and depict the schedules for supply and demand with curvesof the type shown in Figure 1.5. Here, in simpliﬁed form, it can be seen that,as the price of a unit rises, the supply of it will normally increase and thedemand for it decrease so that, over time, price and quantity equilibrium inan openly competitive market with perfect information will presumably beachieved at the intersection of the curves.14 It is also important to note that consumers typically tend to substituteless expensive goods and services for more expensive ones and that thetotal amounts they can spend – their budgets – are limited or constrained byincome. Owen (1970) extensively studied the effects of such substitutions
12 1 ECONOMIC PERSPECTIVES P $ 7 6 Demand Price (P) per unit 5 4 Supply 3 2 1 0 Q 1 2 3 4 5 6 7 8 9 10 11 12 Quantity (Q) of units per time Figure 1.5. Supply and demand schedules.and changes in income as related to demand for leisure and observed,An increase in property income will, if we assume leisure is a superior good, reduce hoursof work. A higher wage rate also brings higher income which, in itself, may incline the indi-vidual to increase his leisure. But at the same time the higher wage rate makes leisure timemore expensive in terms of forgone goods and services, so that the individual may decideinstead to purchase less leisure. The net effect will depend then on the relative strengths ofthe income and price elasticities. . . . It would seem that for the average worker the incomeeffect of a rise in the wage rate is in fact stronger than the substitution effect. (p. 18)In other words, as wage rates continue rising, up to point A in Figure 1.6, peo-ple will choose to work more hours to increase their income (income effect).But they eventually begin to favor more leisure over more income (substitu-tion effect, between points A and B), resulting in a backward-bending labor-supply curve.15 Although renowned economists, including Adam Smith,Alfred Marshall, Frank Knight, A. C. Pigou, and Lionel Robbins, have sub-stantially differed in their assessments of the net effect of wage-rate changeson the demand for leisure, it is clear that “leisure does have a price, andchanges in its price will affect the demand for it” (Owen 1970, p. 19). Figure 1.6. Backward-bending labor-supply curve.
1.2 Supply and demand factors 13Indeed, results from a Bureau of Labor Statistics survey of some 60,000households in 1986 suggest that about two-thirds of those surveyed do notwant to work fewer hours if it means earning less money.16 As Owen (1970) has demonstrated, estimation of the demand for leisurerequires consideration of many complex issues, including the nature of“working conditions,” the effects of increasing worker fatigue on productionrates as work hours lengthen, the greater availability of educational oppor-tunities that affect the desirability of certain kinds of work, governmenttaxation and spending policies, and market unemployment rates.17Expected utility comparisonsIndividuals differ in terms of the psychic gratiﬁcation experienced from con-sumption of different goods and services. Consequently, it is difﬁcult to mea-sure and compare the degrees of satisfaction derived from, say, eating dinneras opposed to buying a new car. To facilitate comparability, economists haveadapted an old philosophical concept known as utility (which is essentiallypleasure).18 As Barrett (1974, p. 79) has noted, utility “is not a measure ofusefulness or need but a measure of the desirability of a commodity fromthe psychological viewpoint of the consumer.”19 Of course, rational individuals try to maximize utility – in other words,make decisions that provide them with the most satisfaction. But they arehampered in this regard because decisions are normally made under con-ditions of uncertainty, with incomplete information, and therefore with therisk of an undesired outcome. People thus tend to implicitly include a prob-abilistic component in their decision-making processes – and they end upmaximizing expected utility rather than utility itself. The notion of expected utility is especially well applied to thinking aboutdemand for entertainment goods and services. It explains, for example, whypeople may be attracted to gambling, or why they are sometimes willingto pay scalpers enormous premiums for theater tickets. Its application alsosheds light on how various entertainment activities compete for the limitedtime and funds of consumers. To illustrate, assume for a moment that the cost of an activity per unit oftime is somewhat representative of its expected utility. If the admission priceof a two-hour movie is $12, and if the purchase of video-game softwarefor $25 provides six hours of play before the onset of boredom, then thecost per minute for the movie is 10 cents whereas that for the game is6.9 cents. Now, obviously, no one decides to see a movie or buy a gamebased on explicit comparisons of cost per minute. Indeed, for an individual,many qualitative (nonmonetary) factors, especially fashions and fads, mayaffect the perception of an item’s expected utility. However, in the aggregateand over time, such implicit comparisons do have a signiﬁcant cumulativeinﬂuence on relative demand for entertainment (and other) products andservices.
14 1 ECONOMIC PERSPECTIVESTable 1.5. U.S. population by age bracket, components of change, andtrends by life stage, 1970–2030Components of population change forecasts Percentage distribution Change (millions)Age 2000 2010 2020 2030 2000–2010 2010–2020 2020–2030Under 5 6.8 6.8 6.7 6.5 1.9 1.7 1.35–17 18.8 17.4 17.2 17.0 1.0 4.7 4.818–34 23.8 23.4 22.5 21.7 5.4 4.3 4.235–65 38.1 39.4 37.5 35.5 14.7 5.8 4.565+ 12.4 13.0 16.1 19.3 5.1 14.6 17.3Total 100.0 100.0 100.0 100.00 28.1 31.2 32.1Population trends by life stage (millions)Life stage 2000 2010 2020 20300–13 56.2 58.2 63.6 68.014–24 43.4 47.7 48.9 53.925–34 39.8 41.8 46.1 47.035–44 45.1 41.3 43.7 48.245–54 38.0 44.7 41.4 44.055–64 24.4 36.3 43.0 40.365+ 35.1 40.2 54.8 72.1Total 282.2 310.2 341.4 373.5Source: www.census.gov/population/www/projections/downloadableﬁles.html.Demographics and debtsOver the longer term, the demand for leisure goods and services can alsobe signiﬁcantly affected by changes in the relative growth of different agecohorts. For instance, teenagers tend to be important purchasers of recordedmusic; people under the age of 30 are the most avid moviegoers. Accordingly,a large increase in births following World War II created, in the 1960s and1970s, a market highly receptive to movie and music products. As thispostwar generation matures past its years of family formation and into yearsof peak earnings power and then retirement, spending may be naturallyexpected to collectively shift to areas such as casinos, cultural events, andtourism and travel, and away from areas that are usually of the greatestinterest to people in their teens or early twenties. The expansive demographic shifts most important to entertainment indus-try prospects in the United States include (1) a projected increase of 4.7 mil-lion 5- to 17-year-olds from 2010 to 2020 and another 4.8 million from2020 to 2030, and (2) a signiﬁcant expansion of the population over age 65(Table 1.5). By 2030, the 65+ group will account for an estimated 19.3% ofthe population as compared to 12.4% in 2000.
1.2 Supply and demand factors 15 Indeed, the marked departure from the years 2000–2010 is that the numberof people in the 45-to-64 age group will not be increasing in proportion tothe number of people in the 25-to-44 group. This is of particular importancegiven that those in the younger category are generally apt to spend much oftheir income when they enter the labor force and form households, whereasthose in the older category are already established and are thus more likely tobe in a savings mode, perhaps to ﬁnance college education for their childrenor to prepare for retirement, when earnings are lower. The ratio of people inthe younger group to those in the older group – in effect, the spenders versusthe savers – is illustrated in Figure 1.7a. Although it depends on the speciﬁc industry component to be ana-lyzed, proper interpretation of long-term changes in population charac-teristics may also require that consideration be given to several addi-tional factors, which include dependency ratios, fertility rates, number ofﬁrst births, number of families with two earners, and trends in labor-force participation rates for women (Figure 1.7b).20 (In 2010, womenaccounted for approximately 47% of the labor force, up from 40% in1975.) Indeed, two paychecks have become an absolute necessity for many fam-ilies, as they have attempted to service relatively high (in proportion toincome) installment and mortgage debt obligations that have been incurredin the household-formative years. As such, elements of consumer debt (Fig-ure 1.7c), weighted by the aforementioned demographic factors, probablyexplain why, according to the Louis Harris surveys previously cited, leisurehours per week seem to have declined since the early 1970s. As the medianage rises, however, these very same elements may combine to abate pressureson time availability. As can be seen from Figure 1.8, aggregate spending on entertainment isconcentrated in the middle-age groups, which are the ages when incomeusually peaks, even though free time may be relatively scarce.Barriers to entryThe supply of entertainment products and services offered would also dependon how readily prospective new businesses can overcome barriers to entry(i.e., competitive advantages) and thereby contest the market. Barriers toentry restrict supply and ﬁt largely into the following categories, listed inorder of importance to the entertainment industries:CapitalKnow-howRegulations21Price competitionTo compete effectively, large corporations must of necessity invest consider-able time and capital to acquire technical knowledge and experience. But thesame goes for individual artists seeking to develop commercially desirable
16 1 ECONOMIC PERSPECTIVES 2.2 1.8 Ratio 1.4 1.0 Ages 20 to 34 versus 45 to 59 0.6 50 70 90 10 30 (a) % 60 50 Labor force 40 participation of women 30 60 70 80 90 00 10 (b) % 22 19 Consumer credit as a % of PI 16 13 10 60 70 80 90 00 10 (c)Figure 1.7. (a) Ratio of spenders to savers, 1950–2030. (b) Labor force participationrate for women, 1960–2009. (c) Consumer credit as a percentage of personal income,1960–2009.
1.3 Primary principles 17 $ 4,000 3,200 2,400 1,600 800 0 under 25 25-34 35-44 45-54 55-64 65-74 75+Figure 1.8. Spending on entertainment classiﬁed by age groups, 2008. Source: U.S.Department of Commerce survey.products in the form of plays, books, ﬁlms, or songs. Government regula-tions such as those applying to the broadcasting, cable, and casino businessesoften present additional hurdles for potential new entrants to surmount. Fur-thermore, in most industries, established ﬁrms ordinarily have some abilityto protect their positions through price competition.1.3 Primary principlesMarginal mattersMicroeconomics provides a descriptive framework in which to analyze theeffects of incremental changes in the quantities of goods and services sup-plied or demanded over time. A standard diagram of this type, Figure 1.9,shows an idealized version of a ﬁrm that maximizes its proﬁts by pricingits products at the point where marginal revenue (MR), the extra revenuegained by selling an additional unit, equals marginal cost (MC), the cost ofsupplying an extra unit. Here, the average cost (AC), which includes bothﬁxed and variable components, ﬁrst declines and is then pulled up by risingmarginal cost. Proﬁt for the ﬁrm is represented by the shaded rectangle (price[p] times quantity [q] minus cost [c] times quantity [q]). Given that popular entertainment products feature one-of-a-kind talent(e.g., Elvis or Sinatra recordings) or brand-name services (e.g., MTV, Dis-ney theme parks), the so-called competitive-monopolistic model of Fig-ure 1.9a, in which many ﬁrms produce slightly differentiated products, isnot farfetched. The objectives for such proﬁt-maximizing ﬁrms are to bothrightward-shift and also steepen the demand schedule idealized by line D.A shift to the right represents an increase in demand at each given price.And a schedule of demand that becomes more vertical – that is, quantitydemanded becomes less responsive to change in price (i.e., becomes more
18 1 ECONOMIC PERSPECTIVES P p MC D AC c MR q Q (a) P p MC AC c MR D q Q (b) P A p1 C p2 D B q1 q2 Q (c)Figure 1.9. (a) Marginal costs and revenues, normal setting, (b) demand becomes moreinelastic and right-shifted, and (c) consumers’ surplus under price discrimination.
1.3 Primary principles 19price-inelastic) through promotional and advertising efforts – enables a ﬁrmto reap a potentially large proportionate increase in proﬁts as long as marginalcosts are held relatively ﬂat (Figure 1.9b). In all, the more substitutes areavailable, the greater is the price elasticity of demand. Look, for example, at what happens when a movie is made. The initialcapital investment in production and marketing is risked without knowinghow many units (including theater tickets, home video sales and rentals, andtelevision viewings) will ultimately be demanded. The possibilities rangefrom practically zero to practically inﬁnite. Whatever the ultimate demand turns out to be, however, the costs ofproduction and marketing, which are large compared with other, later costs,are mostly borne upfront. Come what may, the costs here are sunk (i.e., thebulk of the money is already spent and should be presumed unrecoverable),whereas in many other manufacturing processes, the costs of raw materialsand labor embedded in each unit produced (variable and marginal) may berelatively high and continuous over time. In entertainment, the cost of producing an incremental unit (e.g., an extramovie print) is normally quite small as compared with the sunk costs, whichshould by this stage be irrelevant for the purpose of making ongoing strate-gic decisions. It may thus, accordingly, be sensible for a distributor to take achance on spending a little more on marketing and promotion in an attemptto shift the demand schedule into a more price-inelastic and rightwardposition. Such inelastic demand is characteristic of products and servicesthatAre considered to be necessitiesHave few substitutesAre a small part of the budgetAre consumed over a relatively brief timeAre not used oftenEconomists use estimates of elasticity (i.e., responsiveness) to indicate theexpected percentage change in demand if there is a 1% change – up ordown – in prices or incomes (or some other factor). In the case of income,this can be stated as % change in quantity demandedεi = . % change in incomeAll other things being equal, quantity demanded would be normally expectedto rise with an increase in income and decline with an increase in price.22 Forexample, if quantity demanded declined 8% when price rose 4%, the priceelasticity of demand would be −2.0. In theory, cross-elasticities of demandbetween goods and services that are close substitutes for each other (a newStar Trek ﬁlm versus a new Star Wars ﬁlm), or complements to each other(movie admissions and sales of popcorn), might also be estimated.
20 1 ECONOMIC PERSPECTIVES Similarly, elasticity with respect to income can be estimated for goodsand services classiﬁable as luxuries, necessities, or inferiors. With luxuries,quantity demanded grows faster as income rises, and the income elasticityis greater than 1.0. For necessities, quantity demanded increases as incomerises but more slowly than income (elasticity 0.0 to 1.0). And for infe-rior goods, income elasticity is negative, with quantity demanded fallingas income rises. By these measures, most entertainment products and ser-vices are either necessities or luxuries for most people most of the time(but with classiﬁcation subject to change over the course of an economic orindividual’s life cycle). That demand grows more slowly than income for needs (e.g., food, shelter,clothing) and more quickly for wants (e.g., entertainment, travel, recreationexperiences) has been seen in most societies and nations. Figure 1.10 isbased on per capita data from 116 countries and compares income elasticityestimates for a need category such as clothing to those for a want categorysuch as recreation. From this it can be seen in the upper panel that needsdemand grows at about the same pace as income, but that wants demandtends to rise at a higher rate than income for recreation goods and services.Clearly, as countries become wealthier, people tend to spend proportionatelymore of their income on wants rather than needs.23Price discriminationIf, moreover, a market for, say, airline or theater seats (see Chapter 13) canbe segmented into ﬁrst and economy classes, proﬁts can be further enhancedby capturing what is known in economics as the consumers’ surplus –the price difference between what consumers actually pay and what theywould be willing to pay. Such a price discrimination model extracts, withoutadding much to costs, the additional revenues shown in the cross-hatchedrectangular area of Figure 1.9c. The conditions that enable discriminationincludeExistence of monopoly power to regulate pricesAbility to segregate consumers with different elasticities of demandInability of original buyers to resell the goods or servicesPublic good characteristicsPublic goods are those that can be enjoyed by more than one person withoutreducing the amount available to any other person; providing the good toeveryone else is costless. In addition, once the good exists, it is generallyimpossible to exclude anyone from enjoying the beneﬁts, even if a personrefuses to pay for the privilege. Such nonpayers are, therefore, “free riders.”Spending on national defense or on programs to reduce air pollution is ofthis type. And in entertainment, it is not unusual to ﬁnd near-public-good
1.4 Personal-consumption expenditure relationships 21 Consumption (needs) $48,000 $12,000 $3,000 $750 $188 $47 $12 $3 $3 $12 $47 $160 $750 $3,000 $12,000 $48,000 Income Consumption (wants) $48,000 $12,000 $3,000 $750 $188 $47 $12 $3 $3 $12 $47 $181 $750 $3,000 $12,000 $48,000 IncomeFigure 1.10. Needs (clothing) and wants (recreation): income elasticity estimates in 116countries, 2006. Source: Cox and Alm (2007). Federal Reserve Bank of Dallas.characteristics: The marginal cost of adding one viewer to a televisionnetwork program or of allowing an extra visitor into a theme park is notmeasurable.1.4 Personal-consumption expenditure relationshipsRecreational goods and services are those used or consumed during leisuretime. As a result, there is a close relationship between demand for leisureand demand for recreational products and services.
22 1 ECONOMIC PERSPECTIVESTable 1.6. PCEs for recreation in current dollars, selected categories,1990–2009 aProduct or service by function 1990 2000 2009bTotal recreation expenditures 227.4 489.6 696.3Percentage of total personal consumption 5.4 6.7 6.4Amusement parks, campgrounds, etc. 19.2 31.1 41.8Gambling 23.7 67.6 109.3Magazines, newspapers, and books 47.3 81.0 105.1Video and audio equipment, including 81.1 184.4 265.2 computers and related servicesAdmissions to speciﬁed spectator 14.4 30.6 45.6 amusements, totalMotion picture theaters 5.1 8.6 10.4Spectator sportsb 4.8 11.6 20.7a In billion of dollars, except percentages. Represents market value of purchases of goods and services by individuals and nonproﬁt institutions. See Historical Statistics, Colonial Times to 1970, series H 878–893, for ﬁgures issued prior to 1981 revisions.b Includes professional and amateur events and racetracks.Sources: U.S. Bureau of Economic Analysis, The National Income and Product Accountsof the United States, 1929–1976; and Survey of Current Business, July issues. As may be inferred from Table 1.6, NIPA data classify spending on recre-ation as a subset of total PCEs. This table is particularly important because itallows comparison of the amount of leisure-related spending to the amountsof spending for shelter, transportation, food, clothing, national defense, andother items.24 For example, percentages of all PCEs allocated to selectedmajor categories in 2009 were as follows:Medical care 19.7%Housing 15.8%Transportation 8.9%Food (excl. alcohol bevs.) 6.6%Clothing 3.4%Also, as may be seen in Figure 1.11, spending on entertainment services hastrended gradually higher as a percentage of all PCEs, whereas the percentagespent on clothing and food has declined. That spending on total recreational goods and services responds to preva-lent economic forces with a degree of predictability can be seen in Fig-ure 1.11.25 Figure 1.12 illustrates that PCEs for recreation as a percentage oftotal disposable personal income (DPI) had held steady in a band of roughly4.0% to 6.5% for most of the 60 years beginning in 1929. It is only sincethe late 1980s that new heights have been achieved as a result of a relativelylengthy business cycle expansion, increased consumer borrowing ratios,
1.4 Personal-consumption expenditure relationships 23 % 20 Medical services 15 10 Food All recreation 5 Clothing Entertainment services - 80 85 90 95 00 05 10Figure 1.11. Trends in percentage of total personal consumption expenditures in selectedcategories, 1980–2009.demographic and household formation inﬂuences, and the proliferation ofleisure-related goods and services utilizing new technologies. Measurement of real (adjusted for inﬂation) per capita spending on totalrecreation and on recreation services provides yet another long-term view ofhow Americans have allocated their leisure-related dollars. Although the ser-vices subsegment excludes spending on durable products such as televisionsets, it includes movies, cable TV, sports, theater, commercial participantamusements, lotteries, and pari-mutuel betting – areas in which most of thelargest growth has been recently seen. The percentage of recreation servicesspending is now above 50% of the total spent for all recreation (Figure 1.13),and a steeper uptrend in real per capita PCEs on total recreation and on recre-ation services beginning around 1960 is suggested by Figure 1.14.26 This apparent shift toward services, which is also being experiencedin other economically advanced nations, is a reﬂection of relative market % 9 8 6 5 3 29 49 69 89 09 Figure 1.12. PCE for recreation as percentage of disposable income, 1929–2009.
24 1 ECONOMIC PERSPECTIVES % 60 55 50 45 40 59 69 79 89 99 09Figure 1.13. PCE on recreation services as percentage of total PCE on recreation,1959–2009.saturation for durables, relative price-change patterns, and changes in con-sumer preferences that follow from the development of new goods andservices. As such, even small percentage shifts of spending may representbillions of dollars ﬂowing into or out of entertainment businesses. And formany ﬁrms, the direction of these ﬂows may make the difference betweenprosperous growth or struggle and decay. Because various entertainment sectors have such different responses tochanging conditions, the degree of recession resistance, or cyclicity of theentertainment industry relative to that of the economy at large, is unfor-tunately not well depicted by such time series. For example, broadcastingrevenue trends are dependent on advertising expenditures, which are, inturn, related to total corporate proﬁts. However, the movie and theater seg-ments often exhibit contracyclical tendencies and, to effectively study these $1,400 Total 1,050 700 350 Services 0 29 49 69 89 09Figure 1.14. Real per-capita spending on total recreation and on recreation services,1929–2009.
1.5 Industry structures and segments 25business cycle relationships, data at a less aggregated level must thereforebe used. Measures of what is known as the gross national product (GNP),or of the more recent standard of gross domestic product (GDP), thus canprovide only a starting point for further investigations.27 In addition, ﬁnancial analysts of entertainment and media industries oughtalso to recognize now for the ﬁrst time that the price of oil has the potential togreatly affect overall personal-consumption expenditures and signiﬁcantlyalter sector growth patterns from historical relationships. Although thereremains considerable controversy, there is now mounting evidence that theworld cannot continue to ﬁnd or produce the relatively low-cost petroleumthat has enabled consumers around the world to spend an increasing part oftheir incomes on leisure and entertainment pursuits.281.5 Industry structures and segmentsStructuresMicroeconomic theory suggests that industries can be categorized accordingto how ﬁrms make price and output decisions in response to prevailingmarket conditions. In perfect competition, ﬁrms all make identical products,and each ﬁrm is so small in relation to total industry output that its operationshave a negligible effect on price or on quantity supplied. At the other idealizedextreme is monopoly, in which there are no close substitutes for the singleﬁrm’s output, the ﬁrm sets prices, and there are barriers that prevent potentialcompetitors from entering. In the real world, the structure of most industries cannot be characterized asbeing perfectly competitive or as monopolistic but as somewhere in between.One of those in-between structures is monopolistic competition, in whichthere are many sellers of somewhat differentiated products and in whichsome control of pricing and competition through advertising is seen. Anoligopoly structure is similar, except that in oligopolies, there are only a fewsellers of products that are close substitutes, and pricing decisions may affectthe pricing and output decisions of other ﬁrms in the industry. Although thedistinction between monopolistic competition and oligopoly is often blurred,it is clear that when ﬁrms must take a rival’s reaction to changes of price intoaccount, the structure is oligopolistic. In media and entertainment, industrysegments fall generally into the following somewhat overlapping structuralcategories:Monopoly Oligopoly Monopolistic CompetitionCable TV Movies BooksNewspapers Recorded music MagazinesProfessional sports teams Network TV Radio stations Casinos Toys and games Theme parks Performing arts
26 1 ECONOMIC PERSPECTIVESThese categories can then be further analyzed in terms of the degree towhich there is a concentration of power among rival ﬁrms.29 A measurethat is sensitive to both differences in the number of ﬁrms in an indus-try and differences in relative market shares – the Herﬁndahl–HirschmanIndex – is frequently used by economists to measure the concentration ofmarkets.30SegmentsThe relative economic importance of various industry segments is illustratedin Figure 1.15, the trendlines of which provide long-range macroeconomicperspectives on entertainment industry growth patterns. These patterns thentranslate into short-run ﬁnancial operating performance, which is revealed byTable 1.7, in which revenues, pretax operating incomes, assets, and cash ﬂows(essentially earnings before taxes, interest, depreciation, and amortization)for a selected sample of major public companies are presented. This sam-ple includes an estimated 80% of the transaction volume in entertainment-related industries and provides a means of comparing efﬁciencies in varioussegments. Cash ﬂow is particularly important because it can be used to service debt,acquire assets, or pay dividends. Representing the difference between cashreceipts from the sale of goods or services and cash outlays required in pro-duction of the same, operating cash ﬂow is usually understood to be operatingincome before deductions for interest, taxes, depreciation, and amortization(EBITDA) and more recently and alternatively, operating income beforedepreciation and amortization (OIBDA).31 Although it has lost some analyt-ical favor in recent years, cash ﬂow (EBITDA), so deﬁned, has customarilybeen used as the basis for valuing all kinds of media and entertainmentproperties because the distortionary effects of differing tax and ﬁnancialstructure considerations are stripped away: A business property can thusbe more easily evaluated from the standpoint of what it might be worth topotential buyers.32 More immediately, it can be seen further that entertainment industriesgenerated revenues (on the wholesale level) of about $365 billion in 2009 andthat annual growth between 2005 and 2009 averaged approximately 2.7%.Over the same span, which included a long and deep recession, operatingincome declined at a compound rate of 3.7%, with total assets remaininglargely unchanged. A thorough analysis of the composites shown in Table 1.7 would never-theless further require consideration of many business-environmental fea-tures, including interest rates, antitrust policy attitudes, the trend of dollarexchange rates, and relative pricing power. This last factor is suggested byFigure 1.16, which compares the rise of the Consumer Price Index for afew important entertainment segments against the average of all items for
1.5 Industry structures and segments 27 % 60 50 Movies 40 30 20 Cable 10 0 29 49 69 89 09 (a) % 36 Newspapers and 27 periodicals 18 Recreational books 9 0 29 49 69 89 09 (b) % 8 6 Commercial theater 4 2 0 29 49 69 89 09 (c)Figure 1.15. PCEs of selected entertainment categories as percentages of total PCE onrecreation, 1929–2009.