Rent or Buy That DVD?

A few weeks ago I slipped out for a long lunch to take my wife and two older kids to see "Curious George." Even matinee tickets cost a total of $27, but seeing my children enjoy the cartoon version of the book we've read countless times was... well, you've seen the MasterCard commercial. Of course, we could have waited a few months, and for slightly less money I could have purchased the DVD. Or we could have watched it for no extra cost on cable or by renting through Blockbuster Online, where we get unlimited rentals for a flat monthly fee.

But for a fun winter outing, it was worth the expense.

I share this unimportant calculus because it's emblematic of the new world that consumers of entertainment face. How we navigate such choices has become a big focus, both in Hollywood and beyond. Movie theaters are selling fewer tickets as more people decide they'd rather watch movies in their family rooms (or snazzy home theaters) instead of paying to go to the cinema. And Blockbuster lost $600 million in the first three quarters of last year, largely because more people are buying DVDs (often at Wal-Mart) instead of renting them. But exactly how do customers decide whether to see a movie in the theater, to rent it or to buy it?

To understand the buy-vs.-rent piece of that puzzle, George Knox, a student finishing his Ph.D. in marketing at Wharton, spent more than a year hounding executives at a Philadelphia video chain for data on customer transactions. When he obtained it, he and his adviser, marketing professor Jehoshua Eliashberg, developed theories, wrote formulas and crunched numbers. The result is a research paper, unpublished as of yet, that's a little like "Freakonomics" meets Hollywood--and it may help us unlock the mystery of why people seemed more inclined to rent "Two Weeks Notice" but dug deep to own "Punch-Drunk Love."

Knox and Eliashberg analyzed 75,000 transactions by more than 5,000 custom-ers at a single store. The data show that some people ("collectors") tend to buy a lot of movies, while some are purely rent-ers. So the researchers focused on people who sometimes bought and sometimes rented--like Customer No. 303, who rented "Phone Booth" but bought "The Lord of the Rings: The Two Towers."

After 44 pages of dense formula, the researchers confirmed industry lore that people tend to buy more R-rated action movies. The researchers also came up with a formula that a video store could use to adjust DVD prices to fit individual tastes. For instance, if "Chicago" were priced at $18 instead of the normal $20, Customer 303 might have splurged to purchase instead of rent it. "The model is really a prediction for a certain customer and a certain movie," says Knox, who watches about a movie a week from Netflix and owns only five DVDs. (His favorites: "Kill Bill," volumes 1 and 2.)

The model is something rental chains would be wise to study. Many industries survive for years with static, unimaginative pricing models--but when tough times come, creative pricing is one smart method of coping. Witness General Motors, which has used gimmicks like zero percent financing and employee-discounts-for-everyone to boost sales. The troubled movie industry is no different. The New York Times recently reported on theaters' charging a premium for reserved seating, extending matinee discounts to slow weeknights--and even speculated that someday, they could charge more for movies that get top reviews.

The troubled movie-rental firms have tried some gimmickry, like Blockbuster's year-old initiative to eliminate late fees. But as Knox and Eliashberg's research indicates, these companies might also consider boosting profits by using their deep databases of customers' movie preferences--something Wal-Mart and Best Buy don't have--to customize prices to make shoppers buy more DVDs.

Of course, those tricks won't work on me: I'm a committed renter, regardless of pricing. There are too many new movies I haven't seen to make me want to watch an old one repeatedly. My family's DVD library--if you can call it that--consists of two dozen children's movies (like "Shrek") that we let the kids watch on long car rides. In my view, it's a collection that requires no further investment--but not everyone agrees. At home the evening we saw "Curious George," my 7-year-old informed me: "Mom says she's going to buy us that DVD, no matter what you say." Which goes to show that in a world where economists can build models that predict all sorts of consumer behaviors, no formula can account for the irrational purchases required to maintain family harmony.