February 29, 2004.

A very different elite made their way along the red
carpet into the newly built Kodak Theater for the seventy-sixth presentation
of the Oscars. Many of the stars were now paid representatives for
fashion and cosmetic companies, walking product placements for a
worldwide broadcast that Hollywood publicists claimed, with their usual
hyperbole, would reach 1 billion viewers. (In fact, according to the
Nielsen rating, the event was seen that night in 43.5 million homes.)

The lobby through which they passed contained a gauntlet of five-foot-high
sepia-tinted photographs of stars—including Grace Kelly, Jack Nicholson,
Marlon Brando, Halle Berry, Tom Hanks, and Julia Roberts—
mounted on Plexiglas panels that hung in front of beaded white walls
designed to suggest an old-time movie screen. These outsized images, like
almost everything else in the meticulously planned ceremony, memorialized
the past glory of Hollywood. Not that the glory of the present was
being ignored—the auditorium itself had been specially outfitted to accommodate thirty-six strategically placed television cameras.

Although outwardly much of the 2004 awards ceremony seemed to
resemble its predecessors from the days of the studio system—the statuettes,
the celebrity presenters opening sealed envelopes, the acceptance
speeches, the special awards, the self-deprecating jokes by the master of
ceremonies—Hollywood was now a very different place, operating according
to a very different logic. The physical plants of the great Hollywood
studios, with their soundstages and back lots, still existed in
somewhat diminished form, and most of the studios still bore the same
names and logos, such as Paramount’s mountain peak, Universal’s globe,
and Fox’s searchlights. But beneath their outward appearance, they were
radically different enterprises. They were now international corporate
empires, with their shares traded on stock exchanges in New York, Tokyo,
and Sydney and their debt managed by global banking syndicates.
Movies now were just one of their many businesses.

Columbia Pictures was now owned by the Sony Corporation, a Japanese
electronics conglomerate that manufactured everything from com-
puters to PlayStations and owned music, television-broadcasting, and insurance companies. Sony also owned TriStar Productions, CBS Records,
and the studio in Culver City once owned by MGM. (In 2004, it would
gain control of MGM itself—and its film library.)

The Warner Bros. studio was now owned by Time Warner, a giant
conglomerate that contained the Internet assets of America Online; the
media assets of Time, Inc., which included HBO; the cable and entertainment
assets of Turner Entertainment, which included New Line
Cinema; and the movie, television, and music assets of Warner Communications.

The Fox studio was now owned by News Corporation, an Australiabased
media company whose properties included newspapers, magazines,
a television network, cable networks, and satellite broadcasting in Europe,
North America, South America, and Asia.

The Universal studio was now owned by General Electric, America’s
largest industrial company, in partnership with Vivendi Entertainment, a
huge French conglomerate. Its properties included the NBC television
network, the USA cable networks, USA Films, and the Universal theme
parks.

The Paramount and RKO studios were now both owned by Viacom
International, a media company that owned the CBS and UPN television
networks; MTV, Nickelodeon and other cable networks; Blockbuster
video stores; the Infinity radio networks; and Viacom Outdoor Advertising
billboards.

And the Walt Disney animation studio had grown into the Walt Disney
Company. It now owned—with its $19 billion acquisition in 1996
of CapitalCities/ABC Corporation—a television network, a radio network,
cable networks, theme parks, cruise ships, and other assets, all
of which made it, as its then-chairman Michael Eisner once put it, “a
true full-service entertainment enterprise . . . in the vast entertainment
firmament.”

Despite the differences among them, the six entertainment giants
still had three fundamental things in common.
First, whereas in the days of the studio system making movies for theaters
had been the one and only business of studios, the movie business itself
was now a relatively unimportant part of each conglomerate’s
financial picture. Even when all the earnings from movies’ theatrical re-
leases, video and DVD sales, and television licensing—both domestic and
international—were included in their movie businesses, they accounted
for only a small part of each company’s total earnings. In 2003 Viacom
earned 7 percent of its total income from its movie business; Sony, 19 percent; Disney, 21 percent; News Corporation, 19 percent; Time Warner, 18 percent; and General Electric, if it had counted Universal Pictures as part
of its conglomerate that year, less than 2 percent. So while the film business
may have held great social, political, or strategic significance to each
company, it was no longer the principal way any of them made their
money.

Second, unlike their predecessors, who made their profits at the box
office, all six companies now routinely lost money on theatrical release
(or, as it is now called, “current production”). Consider, for example, the
Disney film Gone in 60 Seconds. Although a not-otherwise-memorable
car-theft movie starring Nicolas Cage, it had been singled out for its commercial success by Disney chairman Michael Eisner in the company’s
2000 annual report, where it was described as one the company’s biggest
“hits.” As far as the public—and shareholders—knew, the movie’s impressive- sounding worldwide box-office gross of $242 million amounted
to an immense profit. But the company’s confidential financial statements,
issued semiannually to the movie’s profit participants over the
next four years, tell a different story.

Disney paid $103.3 million to physically produce the movie—the socalled
negative cost. Then, just to get the film physically into theaters in
America and abroad, it had to pay another $23.2 million—$13 million for
prints and $10.2 million for the insurance, local taxes, customs clearances,
reediting for censors, and shipping fees. Next Disney spent $67.4 million
on advertising worldwide. Finally, it had to pay $12.6 million in “residual
fees” in accordance with agreements it had with various guilds and
unions. Altogether, then, it cost the studio $206.5 million to get this
film—and its audiences—into the theaters.

The so-called gross—a figure authoritatively reported in the media as
if it was the amount a movie earned for its studio—also proved elusive.
Most of the $242 million collected at the box offices never made it to Disney’s coffers. Theaters kept $139.8 million. Disney’s distribution arms—
Buena Vista and Buena Vista International—collected only $102.2
million for a film on which it had spent $206.5 million. And this calcula-
tion does not include Disney’s cost in paying its own employees in its production, distribution, and marketing arms or the interest on the millions
it had laid out. When this overhead ($17.2 million) and interest ($41.8
million) were included, the loss on the theatrical release of this “hit” was
over $160 million by 2003.

Nor was Gone in 60 Seconds an aberration. In 2003, a relatively good
year, the six studios lost money on the worldwide theatrical release of
most of their titles, or their current production. These losses stemmed not
from malfeasance, mismanagement, or flawed decisions about the content
of the films but from the economic realities of the new era.

The massive moviegoing audience that had nurtured the studio system
simply no longer exists. In contrast to the 4.7 billion movie tickets
sold in America in 1947, there were only 1.57 billion tickets sold in 2003.
So, even though the population had almost doubled, movie theaters sold
3.1 billion fewer tickets than they had in 1947. Television, as well as other
diversions, had so reduced the audience that less than 12 percent of the
population bought a ticket in an average week. And the six studios could
not count on getting even this small fraction of its former audience. To
settle the federal antitrust suits in 1949, they had sold their own theaters
and discontinued their block-booking contracts with the independent
theaters. As a consequence, they had lost control over what was shown in
theaters. The theater owners, not the studio heads, now decide which
films to show and for how long. And the theater owners no longer restrict
their bookings to only major studio releases. So the six studios now have
to compete with studioless studios (such as MGM, DreamWorks, and Artisan
Entertainment), as well as other independent filmmakers, for the
desirable times and screens at the multiplexes. Indeed, the six major studios,
including their subsidiaries, accounted for less than half of the 473
films released in the United States in 2003. As a result, their take from
the American box office totaled only about $3.23 billion.

Just as in the old days, studios still have to pay the distribution expenses
on their films. But now they also have to create a new audience for
each and every movie. This requires creating and paying for intensive
television advertising as well as making enough prints for simultaneous
openings in thousands of theaters to take advantage of that advertising.

In 2003, just the prints required for the opening of a studio film cost, on
average, $4.2 million. The advertising averaged another $34.8 million a
title. But while the studios spent an average of $39 million per film just
to get audiences and prints into American theaters, they recovered from
the box office only $20.6 million on average per film. So in 2003 they
wound up paying more to alert potential moviegoers and supply theaters
with prints for an opening than they were getting back from those who
bought tickets. (The story was similar with overseas theaters, for which,
in addition to prints and advertising, the studios had to pay the cost of
dubbing and additional editing to tailor the films to foreign audiences.)

These new marketing costs had grown so large by 2003 that even if the
studios had somehow managed to obtain all their movies for free, they
would still have lost money on their American releases.

But studios, of course, did not make these movies for free. And, to
make matters far worse, the costs of producing a film have also risen astronomically.

At the end of the studio-system era, in 1947, the cost of producing
an average studio film, or negative cost, was $732,000. In 2003 it
was $63.8 million. To be sure, the dollar had decreased in value sevenfold
between 1947 and 2003, but even after correcting for inflation, the cost of
producing films had increased more than sixteen times since the collapse
of the studio system.

Part of the studios’ cost problem is the result of stars being freed from
their control. Instead of being tethered to studios by seven-year contracts,
stars are now auctioned off—with the help of savvy agents—to the highest
bidder for each film. Since there are fewer desirable stars than film
projects, they can command eight-digit fees. By 2003, the top stars were
getting not only between $20 and $30 million a film in fixed compensation
and perks but a percentage of the film’s total revenue after repaying
cash outlays.

For example, Arnold Schwarzenegger received, according to his contract,
a $29.25 million fixed fee for his role in the 2003 film Terminator 3:
Rise of the Machines, as well as a $1.5 million perk package that included
private jets, a fully equipped gym trailer, three-bedroom deluxe suites on
locations, round-the-clock limousines, and personal bodyguards. In addition,
once the film reached its cash break-even point, his contract guaranteed
him 20 percent of the gross receipts from all sources worldwide
(including video, DVD, theatrical box office, television, and licensing).

Under any scenario—whether the film failed, broke even, or made a
profit—the star was assured of making more money than the studio it-
self. In this new era, stars, not studios, reap the profit their brand names
bring to a film.

In 2003 the six studios—Paramount, Fox, Sony, Warner Bros., Disney,
and Universal—spent $11.3 billion to produce, publicize, and distribute
to theaters around the world 80 films under their own imprints. They
spent another $6.7 billion on 105 films produced by their so-called independent subsidiaries, such as Miramax, New Line, Fox Searchlight, and
Sony Classic. Of this $18 billion in expenditures (which did not include
the cost of abandoned projects), the studios recovered only $6.4 billion
from their share of the world box office, leaving them with a deficit of
more than $11 billion after their movies had played in all the theaters in
the world.In the days of the studio system, numbers like this would have meant bankruptcy. But the studios in the new system no longer expect to earn their profits from showing their products in movie theaters. As Frank
Biondi, who served as studio chief at both Paramount and Universal, put
it, “Studios nowadays almost always lose money on current production.”

This brings us to the third, and probably most significant, feature that
the six studios now have in common. They all make the bulk of their
profits from licensing their filmed entertainment for home viewing. Even
as late as 1980, most of the studios’ worldwide revenues still came from
movie theaters. At that point, no matter how large the success of hits such
as Love Story, Jaws, or Star Wars proved to be, all the studios were losing
money on their overall movie business. The deus ex machina that transformed the movie business was not the selection of better movies—as studio chiefs would later claim—but the prodigious
expansion in home viewing that came as a result of the video player,
cable networks, pay TV, and the DVD. By 2003 the studios were taking in
almost five times as much revenue from home entertainment as from
theaters.

As the studios’ profit center shifted from movie theaters to retail
stores, they all made a further adjustment in their business strategies.
Since the six major studios now produced only a relatively few films, they
needed to increase their “throw weight,” as one Paramount executive
termed it, to persuade merchandisers like Wal-Mart to cede them the
strategic shelf space for their videos. So, beginning in the 1990s, they either
bought existing independent distributors—such as Miramax, Dimension New Line Cinema, October Films, Gramercy Pictures, Focus Features, and USA Films—or created their own “independent” subsidiaries —such as Sony Pictures Classics, Paramount Classics, and Warner Independent Pictures—to acquire the rights to foreign movies and lowbudget movies made outside of Hollywood’s purview. As a result of their search for “throw weight,” the studios came to dominate much, if not all, of the independent film business as well.
By 2003, the home-entertainment share had, thanks in large part to
the sales of more than a billion DVDs, reached $33 billion. Since the advertising and other marketing costs associated with them are minimal,
these sales provided a veritable ocean of bottom-line profits, which the
studios now count on to offset the massive losses from their films’ theatrical
releases. Theatrical releases now serve essentially as launching platforms
for licensing rights, much like the runways at haute couture
fashion shows.