Squeezing Every Dime from DVDs

With frugal consumers renting rather than buying DVDs, Hollywood's $14.5 billion cash cow is getting thinner by the month. And even when the economy recovers and people feel flush again, it seems clear that DVDs will not be high on shopping lists. "The days when you [could] get anyone who wants to see a movie to pay $15 at a Blockbuster (BBI), Best Buy (BBY), or Wal-Mart (WMT) are in significant decline," former News Corp. (NWS) President Peter Chernin told a recent University of Southern California roundtable. "And you're going to see [DVD sales] continue to decline."

It is a measure of Hollywood's desperation that the studios, which rarely agree on anything, are closing ranks to shore up the business. This past summer, Sony (SNE), Paramount (VIA), and Fox (NWS) discussed combining back-office and distribution operations as a way of cutting costs and boosting DVD margins. Those talks have since bogged down because hoped-for savings might not materialize quickly enough.

SHARE THE WEALTH?Meanwhile, some of the largest studios are looking to squeeze more money from Netflix (NFLX), the fast-growing online behemoth that revolutionized the DVD rental business. Jeffrey L. Bewkes, CEO of Warner Bros.' parent company, Time Warner (TWX), told an industry conference in mid-September that his studio wanted "better economics" from its Netflix deal. Time Warner, according to knowledgeable industry sources, is pressuring Netflix to rewrite its agreement either to share more of its subscription revenues or to get DVDs from the studios weeks after Wal-Mart and other retailers get them. A Netflix spokesman says only that it "continues to discuss the changing market" with the studios.

Another player feeling the hot breath of Hollywood is Redbox, the fast-growing upstart whose $1 DVD rental kiosks are in supermarkets across the U.S. In a bid to protect DVD sales, Warner, Universal, and Fox have threatened to withhold titles from Redbox unless it agrees to several restrictions. According to a lawsuit Redbox filed against Universal, they include limiting the number of titles rented in each machine, sharing rental fees, and waiting 45 days after a film has been in stores before renting it. "We think there is a place for very low-priced rentals, but obviously not in the middle of when we are trying to sell higher-priced [products]," said Bewkes at the same conference.

Most studios argue that DVD sales will come back when the economy recovers. But even as the studios take defensive steps against cheap rentals, they're looking at a future without DVDs. Warner recently made two new releases available for rent to a small number of Atlanta cable subscribers four days before the DVDs were set to appear in stores. Warner is waiting to see if making the films available on demand would prompt folks to visit their local Wal-Mart and buy the disk. Fox recently offered a three-disk package of X-Men Origins: Wolverine for $26.99 that included a Blu-ray disk, a traditional DVD, and another one that can be stored on a computer hard drive.

After toying with online distribution for years, Hollywood finally seems to be rushing the Net as well. Walt Disney (DIS) may launch an online subscription channel featuring some of its older family classics. And by Christmas, say industry insiders, Google's (GOOG) giant YouTube (GOOG) video service could start renting movies from most of the studios. "They've been practicing some of these dance steps for a long time," says Lazard Capital Markets analyst Barton Crockett. "It's time they hit the dance floor."

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