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Stiff Competition: Vertical Relationships in Cremation Services

Mar 2008
Working Paper
07-041
By  Lori Parcel
I examine the relationship between retail market competition and wholesale contracting patterns. To do so, I analyze the subcontracting behavior of funeral homes (retailers) and crematories (wholesalers) in the Minnesota funeral industry. Exploiting detailed data on wholesale and retail quantities, subcontracting patterns, consumer and establishment locations, and retail pricing, I estimate a model that predicts pricing, consumer funeral home choice, and vertical relationships between funeral homes and crematories. I find that funeral homes seeking wholesale cremation services are significantly less likely to subcontract with crematories belonging to firms that are direct retail market competitors. The estimated aversion to subcontracting with competitors is greater for funeral homes with fewer proximate crematories. This is consistent with foreclosure by integrated crematories. Estimates suggest that independent crematories enjoy seven percent larger markups on average than they would in the absence of strategic considerations in wholesale contracting. Prices and allocations in the retail market are also affected since funeral homes located near crematories owned by competitors incur additional transportation costs in using more distant crematories. Counterfactual analysis indicates that funeral homes with few crematories nearby (that are owned by retail competitors) bear additional costs ranging from $161 to $203 per body on average, or seven to nine percent of the retail price. Half of this cost impact is transmitted to consumers, resulting in a four percent retail price increase in these markets on average.