Hollywood Finds Digitization Isn't So Scary After All

The slow death of the DVD was supposed to spell doom. Instead, it’s created new markets
Photograph by Nancy Stone/Chicago Tribune/MCT/Getty Images

Film premieres get all the attention in Hollywood, but the cash cow for years has been selling those silver DVDs to a home video market far more predictable—and profitable—than the hit-or-miss theatrical release game. That’s why it was widely thought the movie business would take it on the chin as disc ownership gave way to digital distribution of content, just as the music business has been decimated by the shift to MP3s. Yet Hollywood is discovering there’s life after the DVD. With Netflix, Amazon.com, and soon Verizon Communications and Redbox bidding for rights to stream movies on Kindles, iPads, and TVs, the studios are enjoying a boomlet that’s taking the edge off declining disc sales and rentals.

Studio-backed pay-TV channel Epix became the latest to strike gold earlier this month when it signed a multiyear agreement with Amazon to supply such films as The Hunger Games and Marvel’s The Avengers for Amazon’s Prime Instant Video service. Epix, co-owned by Viacom’s Paramount Pictures, Metro-Goldwyn-Mayer, and Lions Gate Entertainment, ended its exclusive deal with Netflix and is expected to make as much as $80 million more a year selling the same content to the two streaming rivals and a third venture financed by Verizon and Coinstar’s Redbox, BTIG Research analyst Rich Greenfield says.

Epix’s journey illustrates how Hollywood’s old model, in which movies slowly made their way from theaters to small-screen reruns, continues to evolve. These days digital outlets such as Netflix and Amazon vie with Time Warner’s HBO and CBS’s Showtime for movies at the so-called premium cable window, a lucrative stop that comes after films have run in theaters, been sold as DVDs, and appeared on pay-per-view. That’s given Hollywood the chance to play the services against each other and replace some of the revenue lost with the drop in DVD sales and the decline of rental outlets such as Blockbuster.

The post-theatrical release market has grown from selling movies for late-night showings on three TV networks to providing content to over 200 cable, satellite, and Net services. Wary of following the music industry, which failed to see the threat of Net piracy and the downside of relying only on Apple’s iTunes for a la carte sales, Hollywood is looking for ways to embrace new business models without being tied to a single distribution outlet, says Mark Greenberg, chief executive of Epix. “We are all reinventing ourselves and going after different competition in different ways,” he says.

As recently as the mid-2000s, a consumer might go to the theater, collect discs at $20 a pop, and still pay to see Steel Magnolias again on HBO or other cable outlets that purchased exclusive rights to show the titles on TV months after they hit retail shelves. Since Apple, Netflix, Google, and others began serving up digital copies that give consumers access to flicks anywhere, anytime, fewer people are buying hard copies. Led by falling DVDs, home video sales have dropped 16 percent, to about $18 billion in 2011, since peaking at $21.8 billion in 2004. And pay-TV outlets are scrambling to find ways to retain viewers now that almost 90 percent of America’s 115 million TV households have the capacity to access a broad catalog of films via the Web.

In August, HBO got 20th Century Fox to extend its agreement to sell newer movies exclusively to the premium channel. The deal, through 2022, lets the same Fox content be sold through online outlets like Apple and Amazon while it’s on HBO, though not to subscription services like Hulu LLC, Jeff Cusson, a spokesman for the channel, says. “HBO considers exclusivity valuable, whether it be our original programming or theatrical” releases, he says.

For now, HBO can take solace in studies that show almost 75 percent of viewing households still haven’t accessed content online. Still, it’s only a matter of time. So Time Warner CEO Jeffrey Bewkes is pushing his cable channels to produce more original content (such as HBO’s Game of Thrones) and serve it up via the Web. Premium channels also will try to strike deals to get studios’ top films first, says Jim Gianopulos, co-chairman of Fox Filmed Entertainment: “Eventually these services will differentiate themselves by the content they offer.”

Cable and streaming outfits have seen the price of movie content soar—Netflix’s costs to acquire content in 2012 will rise to more than $2 billion from about $800 million, predicts Wedbush Securities. So they’re parsing the numbers more closely. Armed with data about what its subscribers are watching, Netflix is taking a harder look at its content costs. Because Epix offers movies to Charter Communications, Dish Network, and Verizon’s FIOS service, and enforced a 90-day delay in Netflix showing those same titles, Netflix cut the amount it pays Epix in exchange for letting it strike deals with other online subscription services, says Ted Sarandos, the online service’s chief content officer. To give it additional negotiating leverage, Netflix is developing its own programming. Next year five shows, including Kevin Spacey’s House of Cards and new episodes of the cult comedy Arrested Development, will be exclusive to Netflix’s 25 million U.S. subscribers.

Such moves are a shot across the studios’ bow. The message: If Netflix, Amazon, and other online subscription sites don’t see their customer rolls jump as a result of the expensive deals they’ve cut with the studios, they will focus less on movie acquisitions and more on developing original programming, says P. Clark Hallren, former managing director of entertainment deals firm Clear Scope Partners: “It’s temporary while people see if this money they’re spending [on films] generates subscribers.”

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