By Jim McCarthy Jan 7, 2010 6 comments

Hear Me Now, Listen Later: Price Has Nothing to Do With Cost

Michael Kaiser, smart guy and big chief of the Kennedy Center, wrote an article in the Huffington Post a few days ago that reminded me of something I’ve been meaning to say on here for a while.  There’s a lot of good stuff in it, but here’s the part I want to focus on:

“The central challenge facing arts managers is to fill the ever-widening gap between rapidly increasing expenses and earned income, primarily from ticket sales. This gap continues to grow each year since the number of seats we have to sell does not increase but expenses do.

Unfortunately, the favored technique used to fill budget gaps has been increasing ticket prices. When we increase prices, typically at budget time, we hope that a small increase will not be noticeable and we need the added revenue to break even. However, we have been doing this for so long that tickets prices are now too high for many people to afford regularly.”

This is a widely held basic assumption about how business works: there are costs that we must pay.  If our costs go up, we have to charge more because otherwise we lose money.

In a sense (but only in a sense) this is true.  You need your revenue to exceed (or at least match) your expenses or you lose money.

But I’m going to say something that you won’t believe and probably won’t even absorb at first.  But if you let it sit with you for a while, you’ll realize  how powerful an idea it is.homer-doh-square

Price (that is, the price that you charge for your shows) has nothing to do with costs.

Not a darn thing.

Suppose, for example, you hired Brad Pitt as your janitor.  I assure you, your costs would go up.

But your price? Hmmm.  I don’t see a lot of people willing to pay twice as much because there’s a hunky celebrity janitor.

But wait, didn’t your costs go up?  Don’t you therefore need to charge more?

Absolute nonsense.  Your price should be based entirely on the value placed on seeing your show by the audience.

Period.

(Now, put Brad Pitt IN the show and your ticket price can go up. )

If your costs are going up faster than the rate of inflation, you need to understand why.  And you need to think very carefully which of these unduly-accelerating costs  are contributing to the value of the production and which are dead weight.

This goes right along with being audience-oriented.  You build the production around the value it delivers to audience.  You don’t build the production and then figure out how much to charge.  That’s insane.

What if Apple built the iphone and then found out that it was  going to have to charge $2000 per unit.  Oops.

But they didn’t.  They developed an understanding of what the marketplace was likely to be willing to pay if they could deliver the product they were envisioning, and then they built to that price point.

Because price has nothing to do with cost.  To quote the movie Boogie Nights, costs are a “YP,” your problem, not the ticket buyer’s.  Your need to charge more because you’ve got accelerating costs works fine as long as consumers continue to value your product at the price you’re charging.

When they don’t, you’ll find you’re in a thing called a Death Spiral: you charge more to “cover costs” and fewer people buy.  Your total net revenue drops.  D’oh!   You didn’t cover costs and you have fewer patrons.  Naturally, since you believe that price is about getting your costs back, you raise prices more to “cover the the ever-widening gap between rapidly increasing expenses and earned income,” and fewer units are sold and net revenue drops some more.

Double D’oh!

The way out? Think about value.  How much is your show, if delivered as envisioned, going to be worth and to how many people?  Now make some estimates about revenue, build in a nice cushion and THEN start building your budget.  You’ll find you’ll often need to innovate and do quite a bit of creative tap-dancing to figure out how to deliver such a thing profitably, but, folks, that’s the game.   You’ll find enduring new sources of value by doing that and ultimately, a profitable model can emerge.

Until then, at least hold off hiring Brad Pitt to mop the floors.


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