Sunday, November 06, 2005

The party's over.

November 6, 2005

Can Hollywood Evade the Death Eaters?

By LAURA M. HOLSON

BY all outward appearances, Warner Brothers Entertainment should be having one of its best years ever. For the 21st year in a row, it is expected to show a profit, propelled by a string of television hits like "ER," "The O.C." and "Friends," which is a hot seller on DVD. Warner has also revitalized its DC Comics movie franchise with the summer hit "Batman Begins." And later this month, it will release "Harry Potter and the Goblet of Fire," the fourth installment of a juggernaut that has already brought in $3.7 billion.

But instead of the popping of Champagne corks, the sound you are likely to hear on the Warner lot is that of a cleaver falling. Executives have been poring over thick binders filled with next year's budget, hoping to cut hundreds of millions in studio expenses. Warner Brothers, the television and film production unit of Time Warner, is anticipating a slowdown in growth in its lucrative home video division. And that, combined with rising costs and uncertainty about new forms of digital distribution, has the studio fretting about its growth prospects.

On Tuesday, Warner laid off 260 employees, or about 6 percent of its staff of 4,500 in Burbank, Calif., with more job cuts expected in its overseas offices. And the studio is starting to re-evaluate everything from when and where it markets movies to how and what it pays its stars. Indeed, Warner executives met recently with agents at Creative Artists Agency and warned that top-tier actors, directors and producers would have to be flexible on upfront fees or else movies would be harder to make.

What makes the upheaval so remarkable is that it is happening at a studio that has long been considered one of the most stable television and movie businesses around. But the challenges facing the division, particularly its movie production unit, Warner Brothers Pictures, reflect a bleak new reality in Hollywood. Film lovers are starting to shun theaters, the threat of digital piracy is growing, and the industry is only beginning to grapple with how to deliver new content for cellphones, video games and other portable devices, like the new video iPod.

George Clooney, the actor who has a longtime production deal at Warner Brothers Pictures with the director Steven Soderbergh, put it this way: "If Warner is having its best year and they are going to have cutbacks, what does it mean for the rest of Hollywood?"

Of course, it doesn't help Warner Brothers that Carl C. Icahn, the billionaire investor, has increased his stake in Time Warner and is pressuring the company's management to bolster the stock price by cutting costs.

But the most likely answer to Mr. Clooney's question is this: more trouble for an industry that has had its share. NBC Universal, a part of General Electric, said this summer that it would cut $400 million in its film and ailing television businesses. Two other media companies - Sony and Walt Disney - recently announced losses in their film divisions. A third, Paramount Pictures, which is owned by Viacom, is still trying to find its way after a management shakeup almost a year ago. And earlier this year, DreamWorks Animation and Pixar Animation Studios reported higher-than-expected DVD movie returns from retailers.

Both Barry Meyer, the chief executive of Warner Brothers Entertainment, and Alan Horn, its president, said the division's cuts were not mandated by Time Warner in New York. "We have done it more quietly in the past," Mr. Horn said. "But this time Barry and I said, 'Let's be a little tougher about this.' "

Besides, Mr. Horn said that there was a practical side to the studio's recent corporate soul-scrubbing. "I don't lose sleep over this, and I'm not nervous," he said. "But the challenge to growth is really daunting. If we grew 10 percent that would be great, but we haven't said we expect a certain rate. It is a healthy exercise to stop and look at what is going out the door."

Mainstream, With a Twist

Jeff Robinov has to deal with his share of divas and disasters.

Last year, Mr. Robinov, the Warner Brothers Pictures head of production, replaced the director of "Superman Returns" after he refused to board a plane to Australia days before filming was to start. A year earlier, Warner took a $25 million hit when it moved the set of "Troy" to Mexico from Morocco after studio executives feared that unrest in the Middle East would endanger the cast and crew.

But that's not what is giving Mr. Robinov fits. It's the amount of time he spends trying to figure out which films will attract moviegoers. The industry is in the midst of a major shift as people increasingly turn to video games, big-screen televisions and the Internet for entertainment; movie attendance in the United States is down 8 percent for the year.

"Something is changing in the movie experience," Mr. Robinov said in an interview at his office on the Warner lot last month. "Is it piracy? Is it commercials? Is it the availability of movies? Or are we not creating enough things to drive people out of the home? My biggest fear is having a movie that deserves to be seen, but is not."

Three years ago, Mr. Robinov and Mr. Horn, who oversees the movie division, said they would make about 25 movies a year, including at least four so-called event movies with global appeal. The strategy has largely worked. In 2004, the movie division brought in a record $3.41 billion at the worldwide box office, powered by the likes of "Troy," "Ocean's Twelve" and "Harry Potter and the Prisoner of Azkaban." Last summer, it scored again with "Charlie and the Chocolate Factory" and "Batman Returns." What's more, the studio's two-year-old independent-movie arm also had its first bona fide hit, "March of the Penguins," for which it paid $1.6 million for distribution rights and some voice-overs; the film has brought in $77 million at the domestic box office.

Mr. Robinov attributed some of Warner's recent success to pairing familiar stories with unexpected choices in directors and actors who, not coincidentally, can be cheaper to hire. With 483 movies released in theaters in 2004, many with similar specials effects and tapping a limited pool of big-name stars, he worried that the industry suffers from too much sameness. As DVD sales growth slows, Warner has begun seeking more partners to help finance films, he said. And Mr. Robinov suggested that the studio might make one or two fewer films each year. "When revenue projections change, it puts more pressure on a movie," he said. "With profit margins smaller, the movie becomes harder to justify making."

Mr. Robinov and Mr. Horn were among the studio's executives who took part in the breakfast meeting at Creative Artists Agency and told agents that, in some cases, it could not afford to pay top talent what they had grown accustomed to. "My message was, 'Look, we may be asking people to understand the pressures we are under and that it may have implications to what we can pay,' " Mr. Horn said.

For any studio looking for cuts, that is a logical place to start: a $30 million movie can quickly become a $50 million movie or more if a studio hires someone like Julia Roberts.

As a result, the kind of deal Warner recently struck with Brad Pitt is starting to become more commonplace. Mr. Pitt agreed to take less money upfront for "The Assassination of Jesse James," a $32 million Western that the actor wanted to make.

"We needed help," Mr. Robinov said. "We had to sit down and say, 'To make this movie you have to make financial concessions.' "

Of course, those deals can also limit the studio's rewards because they often include profit-sharing. Mr. Clooney and Mr. Pitt earned more cash on "Ocean's Eleven" by agreeing to take a percentage of the profits than they would have by getting a big upfront fee.

Mr. Clooney said he was willing to take a gamble on roles that interested him. His "Good Night, and Good Luck" cost $7.5 million and wouldn't have been made if he had demanded a $20 million salary for acting in and directing the movie.

"Economically, it is getting harder and harder," Mr. Clooney said. "If studios are forced to pay top dollar, the film gets compromised. You can't get the other actors you want. The edges get knocked off. It is better to participate, because then you get to do the films you want."

Sell, Sell, Sell

"Marketing costs are just skyrocketing, and if we don't address this we are going to put ourselves out of business," said Dawn Taubin, the president of Warner Brothers Pictures' domestic theatrical marketing, speaking about the industry.

Consider this: the average cost to market a film domestically in 2004 was $34 million, roughly half the $64 million average price tag to make one, according to the Motion Picture Association of America. Blockbusters cost even more to market: as much as $60 million domestically and $125 million worldwide.

On Wednesday, Time Warner announced that operating income before depreciation and amortization for filmed entertainment - which includes New Line Cinema, Warner's sister company - was down 30 percent, in part because of movie marketing costs.

These are confusing times for marketers like Ms. Taubin, who have found that spending buckets of money on traditional advertising - including newspapers and television - doesn't corral moviegoers the way it used to. Teenagers are now more spontaneous about their movie choices, which means that studios have a harder time reaching them through magazines and television. Not surprisingly, more and more young people are relying on the Internet to help them decide what to see; according to the studio's own survey, 30 percent of teenagers said they learned about "Charlie and the Chocolate Factory" online. It is conceivable that studios could forsake newspapers altogether someday.

"It's a possibility," Ms. Taubin said. "But it depends on whether there are other forms of advertising to replace it."

A shift has already taken place at major studios: last year, their spending fell for newspaper and television ads in the United States and increased for the Internet and trailers. For Warner's part, it combined its domestic home video and theatrical media buying - which includes television, radio and newspapers - so it would have the flexibility to adjust marketing campaigns and negotiate better rates. The studio has adopted a similar strategy in Britain and Germany, said Sue Kroll, president of international theatrical marketing.

But perhaps the biggest driver of changes in marketing is the speed at which DVD's are coming to store shelves. Some DVD's are now arriving in stores less than four months after a movie hits theaters. Instead of creating two campaigns - one for the theater and another for home video - Warner is considering whether to consolidate its marketing operations under one umbrella.

"Clearly, it makes a lot of sense to create a cohesive marketing plan," said Mr. Meyer, the chief executive.

Many analysts tend to agree. "Warner has to come to grips on its spending," said Richard Bilotti, a media analyst at Morgan Stanley. "They don't need all that to open a film when Wal-Mart is more important."

Indeed, Ms. Taubin said the studio was reviewing costs, even those for the oh-so-important awards season. But that also poses a challenge as competitors are more than willing to foot the bill for an Oscar campaign to snag a favored actor or director away from Warner Brothers.

"The first phase of a campaign can be helpful because it can bring people's attention to a movie," Ms. Taubin said. "But we've all looked at an ad and said, 'What? Are they kidding?' I've even done that."

Just Staying Home

Here is a statistic from Time Warner's Web site that shows the force of Warner Brothers in the home video market: for six of the last eight years, the studio has been No. 1 in DVD and VHS sales and rentals, with a market share of 19.7 percent in 2004.

That is why Hollywood was stunned when Warner Brothers ousted the president of its home video unit two weeks ago and folded it into a newly reconfigured digital distribution division along with online operations, wireless and video games, and emerging technology. For many analysts, it signaled a radical shift - that in an increasingly digital world, DVD's would no longer be the dominant way the studio distributed content.

In the 1990's, Warner was credited with invigorating the DVD format, forcefully marketing its vast library of already released movies and, later, popular television shows to bolster the studio's bottom line. Days before he was replaced, James Cardwell, the president of the home video unit, said, "We've grown accustomed to sales growth rates of 20 percent a year."

The future does not look so promising. Warner's DVD sales growth is expected to slip to a single digit in 2006, Mr. Cardwell said. But even then Mr. Horn is cautious about how high - or low - that number will be. "Much of this is related to new releases and I can't tell," he said.

So why the slowdown now? Some analysts suggest that studios should have been better at forecasting demand. Late adopters of the DVD technology are more likely to rent than buy DVD's, while consumers who bought DVD players early on already own many of the discs they want. The market is flooded with products. According to the DVD Release Report, an industry newsletter, 50,936 titles have already been released on DVD, with an additional 1,055 to be released by the end of next March.

"Home video gave us a cushion that made it easier to grow," Mr. Horn said. "Now that it has leveled off, we don't have the cushion. It's very hard to grow profitability when you are at capacity."

Kevin Tsujihara, the new president of Warner's Home Entertainment Group, said one reason home video is now a part of the new digital group is that the interests of established clients, like Wal-Mart or movie theater owners, need to be balanced with those of consumers, who want content on demand. "There are certain constituencies that need to be part of the discussions," he said. "It needs to be managed and explained to established clients like Wal-Mart to preserve the ecosystem."

Chasing a Moving Target

Don't tell Dan Fellman, Warner's president of domestic theatrical distribution, that moviegoers are fed up with high ticket prices, jammed parking lots or too-long commercials at theaters. "The situation works just fine; it's really not broken," said Mr. Fellman, swatting at the air in his office as if shooing away invisible critics. "I hate to use the old cliché; but every household has a kitchen, yet on Saturday night it's still hard to get a restaurant reservation."

But clichés are clichés for a reason. Hollywood's image of Saturday date night or the family piling into the car for an evening at the multiplex is quickly changing in a wired world. Flat-screen high-definition televisions offer a first-rate theater experience. And consumers are already watching movies or television shows on hand-held devices, like the PlayStation Portable or the video iPod, which can play past episodes of Disney shows including "Desperate Housewives."

Indeed, consumers' quick adoption of new technology has much of Hollywood scrambling to stay ahead in a digital universe. In consolidating Warner's digital distribution efforts into one division, Mr. Meyer, the chief executive, hopes that the studio can exploit opportunities that offer the greatest growth potential, including online games and wireless content.

Still, the studio's first order of business is to protect Warner's theatrical releases, despite pressure from some filmmakers and consumers to offer movies simultaneously over the Internet, on DVD or through video-on-demand.

Movies earn money in several ways: first at the theater, then on DVD and later through sales to network and cable television. But with digital downloads or video-on-demand, studios increase their ability to offer consumers a menu of movies, television shows and games at different times and for a variety of prices. The trick is to explore new, potentially lucrative ways of digital delivery while keeping theater owners and DVD retailers happy.

"The business is made much more complex by windows and audiences that are fragmenting," Mr. Meyer said. "The story for the next 10 years is how content is going to adapt. You won't find your audience in any one place anymore."

Warner is already developing a short animated program based on "The O.C." for cellphones. It has been quietly producing video games for more than a year, although the business has yet to take off. And Mr. Tsujihara, who is overseeing Warner's digital efforts, said international television clients and traditional retailers alike are already asking to extend rights on programming to video-on-demand, pay-per-view and digital downloads in one package.

But Warner, unlike Disney, is still skeptical about offering its movies and television shows for the video iPod or other portable devices. One concern is that the content will be easier to copy and share, compounding the problems the studio is already experiencing with piracy.

"I don't know if we are ready to do that," Mr. Meyer said. "I want to see how the Disney experiment works, how it affects the television affiliates and video retailers. A lot of people are affected by it. We want to be responsive, but everything has the overlay that we don't want to put anything out that has a negative effect on how we manage our digital rights."

Copyright 2005 The New York Times Company

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