Hollywood's Broke Part 1: Recognizing There's a Problem

[Ed. Note: This is the first part of an 8 part series that will run each weekday morning through next Friday.]

In an interview with CNBC’s David Faber last November, legendary media titan John Malone said this of the network television model: “It don’t work.” Now, perhaps Dr. Malone was just getting in his digs on traditional media, which he does from time to time. But in this case, he’s right. The network television model has been failing for some time, and so has the feature film financial model.

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This naturally leads us to ask the question “If it is broken, can it be fixed?” As the Internet continues to flummox media companies, forcing management to confront increasingly fragmented audience pools, we must further ask, “if it can be fixed, what exact form does this fix take?”

The ultimate goal of this series of articles is to proffer different financial models for media companies of all kinds to consider – and find one that will ideally offer a higher degree of financial stability and therefore deliver value to shareholders. This model should permit media companies to achieve maximum ROI in a world where alternative financing, production, and distribution will become increasingly important. Readers will discover that the cure, such that it is, is at least as dependent on a set of objective criteria that constitutes good storytelling as it does on a re-jiggering of the financial models.

However, in order to provide a cure, we must first understand the disease and its symptoms. Thus, we need to identify the flaws inherent in the present system. Hollywood’s current system –which has been in place for quite some time – needs to be understood both in terms of its corporate culture, as well as in the behavior of the rank-and-file employees. Indeed, besides good storytelling, the psychology of the business is at least, if not more important, than the actual business itself.

As with any medical diagnosis, we begin with the patient’s history.

Until a few years ago, the television model worked under the “deficit finance” model. Studios spent millions developing dozens of different shows from the script level, allowed about 70 to be shot as pilots at a cost of several million dollars each, and then chose 5 – 8 new shows to join the schedule each year, with a couple of mid-season shows as replacements for any failures. Each network would have shows that were successful enough that they would be sold into syndication – that’s where your local TV station pays the studio for the right to air the program in re-runs for a few years. This is where the big payoff was for the studios. A studio might have 20 losers, but all it took was one “Seinfeld,” and the amount reaped in the syndication market would literally be worth billions. Shows were also sold to cable networks that needed programming, as well as to overseas markets. Since studios were often owned by the same entity that owned the network that aired the show, further revenues were garnered during the show’s initial network run from advertising. As the syndication market began to dry up, the studios replaced that revenue stream by selling entire seasons of shows on DVD. This became a hugely lucrative market. Even shows that tanked might become a cult hit on DVD.

The feature film model followed this same concept of portfolio theory – produce a whole bunch of films of various costs structures. A few mega-hits wipe out the losses of the losers and then some – providing terrific returns.

All in all, the system worked pretty well (despite the inherent flaws of modern portfolio theory) – well enough for the studios to continue to produce programming for years and years, and make money doing it. Now, however, that has all changed. With the ability of “lean-forward” consumers to watch what they want, when they want (much of it for free), all of the traditional revenue streams have been threatened. The younger generation sees no distinction between movies, television, and the Internet. They do see a distinction between that which costs money and that which does not.

This seminal change in behavior, along with myriad macroeconomic factors and the gradual disappearance of the syndication market, has put pressure on revenue streams. DVD revenue has fallen sharply. The syndication market for network television programming has all but vanished, or migrated to cable channels for which less revenue is usually generated. Overseas capital has dried up, cutting into international sales of American programming.

So Hollywood must adapt. For that to happen, it must rebuild itself from the ground up.

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