The Hollywood Economist 2.0

by Edward Jay Epstein

  Can a zombie studio such as MGM be brought back to life? The answer is yes if Wall Street is willing to provide fresh money. MGM is now scheduling a new installment in its James Bond franchise for November 2012. Its newly appointed co-CEOs, Gary Barber and Roger Birnbaum, who also own Spyglass Entertainment (which, with a deal with Fox, competes with MGM), have made a deal with Sony to distribute—and put up half the financing for Bond 23. Raising the balance of the money is no problem because after a New York bankruptcy court wiped out all of MGM’s nearly $4 billion in debt, JP Morgan Chase stepped in and arranged, for a fee, a new $500 million line of credit for MGM. The bank can well afford to do so because it earned over $100 million in the fees it charged other banks for arranging the earlier $3.7 billion loan that MGM effectively defaulted on.

  THE RISE OF THE HOME ENTERTAINMENT ECONOMY

  Worldwide MPA Studio Receipts

  (Inflation-corrected, 2007 US Dollars)

  Billions of dollars

  EVER WONDER WHY NEW YORK LOOKS LIKE TORONTO IN THE MOVIES?

  In the golden era of the studio system, a studio mainly confined its principal photography to its own highly-efficient sound stages and back lots, where it could deploy its contract stars and technicians, and had whatever exotic material was necessary shot by a traveling second unit. Nowadays, movies are shot all over the world, but in scouting locations, producers are not seeking the most authentic settings or spectacular production values. The lure is government subsidies. As one producer put it, movies, like ladies of the night, go where the money is. Such subsidies can finance up to a large share of the below-the-line budget through a series of maneuvers in which a movie first qualifies for tax credits by employing local actors and technicians, then selling those credits.

  Hence the appeal of Canada. The Canadian federal government provides foreign producers with a subsidy, called the Film Production Services Tax Credit, which in 2008 equaled 16 percent of Canadian labor costs. In addition, British Columbia offers an additional 18 percent rebate on labor from that province. Finally, there is a 20 percent break on digital effects, if they are done in Canada. In order to qualify for this tax credit—which the producer sells through a Canadian partner—either the director or the screenwriter and one of the two highest paid actors must be Canadian, which might partly explain the demand for Canadian actresses, such as Alex Johnson, the star of Final Destination 3.

  Heeding the siren call of subsidies, Hollywood moved north over the last decade, outsourcing to Canada no fewer than 1,500 movies and television productions. Producers found Vancouver could double for middle America, Toronto could stand in for New York City (especially if the director avoids wide shots), and Calgary makes for a great American West. At times, some script adjustments were required to accommodate the cold reality of the North. For example, in Final Destination 3, which was filmed in British Columbia, the climactic attack was supposed to occur during an outdoor party on the Fourth of July but since it was not feasible to have actors wear summery clothes during Vancouver’s chilly spring, the holiday was changed to the town’s tricentennial celebration. But for Hollywood’s illusion-makers, who have much experience in geographically deluding audiences, such adjustments are worthwhile, especially if they finance one third or so of the budget with a depressed currency, the plummeting Canadian loonie. As a result of this location shopping, Canada has emerged as a Hollywood stand-in for the United States.

  THE FOREIGN MIRAGE

  When Hollywood movies fail to find audiences in America, it is often claimed that these movies redeem their losses overseas. The assumption here is that the box office receipts abroad are pure gravy for the movie studios. For example, the usually financially-savvy Wall Street Journal reported on November 19, 2004, that three notable “duds” in America—Troy, The Terminal, and King Arthur—“ended up turning handsome profits” because “in each case, box office receipts from outside the US far outweighed domestic returns.” It then cited impressive sounding numbers: Troy “made” $363 million internationally; The Terminal, $96.3 million internationally; and King Arthur, $149.8 million abroad—as if these receipts represented their salvation.

  In reality, however, these impressive-sounding receipts represented the foreign theaters’ revenue, not the studios’ share of them. In fact, the studios get an even smaller share of the foreign than of the American box office. In 2007, the studios’ share averaged about 40 percent of ticket sales. And from those revenues, studios have to pay for foreign advertising, prints, taxes, insurance, translations, etc. Once those expenses are deducted, the studios are lucky to wind up with 15 percent of what is reported as the foreign gross.

  Consider, Disney’s Gone in 60 Seconds. Its reported “foreign gross” was $129,477,395. Of that sum, Disney got $55,979.966, of which it paid out $37,986,053 in expenses.

  They included:

  Foreign Advertising $25,197,723

  Foreign Prints $5,660,837

  Foreign Taxes $5,077,286

  Foreign Versions $822,997

  Foreign Shipping $454,973

  Currency Conversion $266,900

  Foreign Trade Dues $122,275

  After paying these expenses, Disney was left with just $17,993,913—a far cry from the reported $129,477,395 “gross.” And the film is still over $153 million in the red. So while the foreign box office helps, it does not necessarily make a movie profitable.

  PUSHING THE PSEUDO REALITY ENVELOPE

  When the Wall Street Journal cited the on-screen brand choices of two movie stars, Steve Martin driving a Mercedes Benz S-Class sedan in Shopgirl and Matthew Broderick driving one in The Stepford Wives, as empirical evidence that this model of Mercedes has practically become an icon for corporate chieftains, movie stars, and diplomats, it showed how effective product placement can be in movies. It was not the movie stars themselves who drive that brand of car, but their fictional characters who are cast with those cars by the producers.

  The casting of cars goes back to the 1974 James Bond film The Man with the Golden Gun, whose producer, Albert “Cubby” Broccoli, made a deal to use American Motors vehicles in all the chase scenes in exchange for advertising dollars to promote the movie. The function of such product placement is to subtly associate the car brand with a class of people. Hence the choice of Chrysler Jeeps in Lara Croft Tomb Raider: The Cradle of Life, Audis in I, Robot and Transporter 2, General Motors cars in The Matrix Reloaded, and Ford cars on X-Files and 24. Product placement now includes products ranging from Apple computers in Mission: Impossible to Nokia phones in The Saint to almost any brand mentioned on NBC’s The Apprentice.

  The persistence of a brand in a studio’s movies often signifies nothing more than a package deal. The Weinstein Company, for example, entered into a multi-year marketing alliance with L’Oréal Paris, the world’s largest “beauty” brand, which will result in the integration of L’Oréal’s products in the Weinstein brothers’ movies. And, with digital technology, even if a L’Oréal product was not shot in the movie itself, it can be inserted later (as is now being done with old TV series). One successful producer, whose movies have been distributed by the Weinstein brothers, noted “Product placement gigs will become a major source of production financing in the future, in which a movie provides a controlled world of good-looking stars wearing a certain brand of clothing for an hour and a half, in exchange for which the brand manufacturer pays for a large share of the production.”

  Product placement, though at a much smaller (and discrete) scale, has a long history in Hollywood. In the 1930s, De Beers, for example, had its agents give studio executives sample diamonds to use in roles that showed women being swayed by the gift of a diamond jewel. Not uncommonly, the diamonds were never returned. As brands took on more global significance, product placement became more open—and routine. Most product placements nowadays are barter deals. A manufacturer finances a cross-promotional ad campaign in return for their product being placed in a movie. In more recent James Bond movies, such as D
ie Another Day and The World Is Not Enough, for example, such ads for product placement deals were valued at over $30 million dollars. Cash deals are much rarer—and minuscule by comparison—but can prove useful in covering unforeseen contingencies. In Terminator 3, for example, the cash committed for product placements was used to guarantee the deferred part of Jonathan Mostow’s $4,960,000 director’s fee.

  Not all product placement deals accrue to the profit of the production itself. In the case of Natural Born Killers, for example, a producer arranged for the director Oliver Stone and other members of the production to get two free pairs of cowboy boots in return for showing the boots’ brand name, Abilene, on a truck passing by the open convertible driven by the character Mallory Knox (Juliette Lewis). This meant that the two vehicles—Mallory’s car and the Abilene boot truck—coming from opposite directions, had to arrive in front of the camera at precisely the same time. Over and over again, both drivers, starting their approach a half mile apart, had to be continually cued with walkie-talkies as the camera, which was mounted on a crane, swooped down. So, to get his free boots, Stone had to shoot numerous retakes, which delayed a production running at $300,000 a day.

  For smaller independent movies, the fees for product placement, whether cash or barter, are much less. The going rate for a single product inclusion in an independent movie usually ranges between $50,000–$250,000. According to one knowledgeable independent producer, the most that’s gained from the placements is some free products, some cash for the production, and some shared advertisement placement, and that is usually conditioned on the product making the final cut and the film getting a US release. Even so, for productions on a tight budget, bartering airplane tickets, hotel rooms, and automobile leases for product placement slots can result in more money being available for the filming itself—or post-production work. Nor is there any reason that product placement should not be part of the pseudo-reality of a movie. All the Oscar ceremony blather about social reality notwithstanding, movies are fictive concoctions. What goes into that concoction—including stars chosen for their ability to pre-sell foreign markets, locations chosen to qualify for government subsidies, and brands chosen for their production placement value—doesn’t alter its fictional status. The only problem comes when the illusion of a movie is confused with the reality of the consumer zeitgeist—which of course is the ultimate purpose of the product placer.

  THE NEW CIVIL WAR AMONG THE STATES

  Not willing to leave all the glamor of providing backdrops for Hollywood movies to Canadian interlopers, states are now competing against each other to lure studios with lucrative incentives to shoot movies in their bailiwick. The incentive usually takes the form of awarding state tax credits to a movie, which a studio can then sell to corporations or individuals able to use them to offset their taxes. Warner Bros. and Paramount’s 2008 film The Curious Case of Benjamin Button is a case in point. The film had been budgeted at over $160 million because of expensive computer-generated special effects needed in postproduction to age and de-age the characters played by Brad Pitt and Cate Blanchett. The producers figured out that by filming it in Louisiana—for example, substituting the Gulf coast at Mandeville for the English Channel—they could qualify for the tax credit not only on the scenes actually shot in Louisiana but also for the special effects done in Los Angeles-as-Louisiana. They were also awarded a 15 percent tax credit for the entire budget of the film, including the money spent out of state on special effects and other post production work. As a result, the producers were able to cash in $27,117,737 from these tax credits, a windfall they would have missed had they shot the movie in Hollywood. Of course, this largesse proved costly to Louisiana. In 2006, it doled out $121 million in tax credits and, after it was discovered that producers might be paying counter-bribes to qualify, the Louisianan who oversaw the program, Mark Smith, pleaded guilty to taking $67,500 in bribes to inflate production budgets for film companies. Even so, in 2008, more than seventy films and TV productions qualified for tax credits in Louisiana.

  By 2008, no fewer than forty states were offering some kind of incentive to lure movies. Most used the same form of tax credit as Louisiana, which is then “monetized” for the studios by specialized financial companies, such as Screen Capital International. A few states simply rebate a percentage of the budget to the studio. New Mexico, for example, gives a 25 percent production cost rebate. As far as studios are concerned, the more the merrier, and the more complex the better. The incentive war between the states is just another opportunity for enrichment.

  THE RISE AND FALL OF PAY TELEVISION

  In Hollywood, like its movies, El Dorados are found and lost. Consider the once rich pay-channel output deals, which, as late as July 2008, Bob Weinstein, the co-chairman of the Weinstein Company, could describe as “the bedrock of the business … not one company in this business could survive and succeed without one.”

  These quasi-secret deals originated back in the early 1980s, when Viacom’s Showtime was desperately competing with Time Inc.’s HBO for access to cable viewers. These were known in the industry as “The Pay-TV Wars.” In those years, when DVDs were no more than a distant gleam in the eyes of Japanese manufacturers and videos were rented but not sold to the public, studio movies on pay channels drove cable subscriptions, and to get those subscriptions cable operators would pay big money to the dominant pay-TV channel, which was HBO. In this battle to dominate cable distribution, a battle HBO won, the pay channels needed the exclusive rights to movies, and offered to buy studios’ entire slate of movies for many years. Although this war was rarely, if ever, mentioned in the entertainment media, many of the executives who negotiated these early deals, including Frank Biondi, Jonathan Dolgen, and Thomas McGrath, went on to run Hollywood studios. The price that was paid per title was adjusted by a formula that adjusted the payout, which averaged about $12 million, according to its box office results. In 1985, however, after HBO wound up paying $30 million for Ghostbusters because of its huge box office numbers, it began capping the maximum pay out at $12.5 million per title. So did the other pay-TV channels. Even so, payment to studios averaged close to $10 million a title up until 2005. A studio with twenty-five movies a year in its output deal would collect a quarter billion dollars in the US alone. This was pure gold since, unlike the theatrical release, in which theaters keep half of the box office, and then distributors deduct print and advertising outlay from what remains, almost all the money from the output deal went directly into the studios’ coffers. And by 2000, the six major studios, and their subsidiaries, were taking in $1.1 billion from pay-TV.

  In the new millennium, however, the ascendancy of the DVD in the 2000s, and later iTunes and other digital downloads, gave viewers alternative ways of watching movies in high quality at home before they became available on cable. In addition, according to a top executive of HBO, new subscription growth was flattening, movies or no movies, with the near saturation of household growth. To hold their audience, and cash in on the DVD boom, pay channels increased their investment in original programming, such as the series Sex and the City, The Sopranos, and The L Word. As a result, as the studios’ multi-year output deals expired, the pay-TV channels drove harder and harder bargains with studios, and became far more selective about what they would buy. Instead of buying a studio’s entire output, pay channels found they could fill a large part of their 24-hour a day schedule by simply replaying more frequently their own inventory of movies and original programs. By 2009, they were buying less than half the number of studio movies that they had bought in 2005, and paying half the price per title.

  One of the first casualties of this cutback was New Line Cinema, a mini-studio that Time Warner had acquired in 1996. Up until 2007, it had an output deal with HBO, another Time Warner subsidiary, that guaranteed it about $80 million for twelve movies. When Jeff Bewkes became chairman of Time Warner in 2008, he found that HBO did not need the New Line movies, and the $80 million was largely being used to fin
ance distribution organizations that could be folded into Warner Brothers. So Bewkes ended the sweetheart output deal, closed New Line (as well as its Fine Line and Picturehouse divisions) and did not renew the contracts of New Line co-founders Bob Shaye and Michael Lynne.

  Paramount had a similar problem in 2008 with its output deal with Showtime after the pay channel became part of CBS, Inc. in the split up of Viacom. Unwilling to renew the rich sweetheart contract it signed with Paramount when both companies were part of Viacom, Showtime left Paramount without any output deal.

  But don’t cry yet for Hollywood. Even though the gold is gradually petering out of the pay-TV El Dorado, it is because new ones are emerging on the digital horizon.

  FOR WHOM DOES THE MOVIE BUSINESS TOLL?

  Along the metaphoric road to getting movies to the greater public, the studios act as the toll collector. The major studios collect this toll in the form of a distribution fee not only on the movies that they produce and finance but on other people’s movies that they distribute. No matter how well or badly a movie fares at the box office, no matter how much money outside investors have sunk into it, the studio takes its cut from the gross emanating from the box office, the video store, and the television stations. Each of the six big studios, Warner Bros., Disney, Fox, Sony, Paramount, and Universal, has a wholly owned distribution arm that distributes titles that it finances, titles that it co-finances with partners, and titles produced and financed by outside production companies and so-called studio-less studios. The reason that these six studios dominate distribution is that the multiplex owners who book movies believe that they alone have the wherewithal not only to open a movie in 3,000 or more theaters on any given weekend but to create a national audience for it.