Film feats have clay feet

Movie biz magnifies risk thru escalating pursuit of the jackpot

Studios typically flood the summer season with their expensive tentpoles — but just how profitable they are is an open question.

It depends on how you count and for how long you keep track.

A movie logically has a six-year cycle over which to recoup costs and turn a tidy profit. And increasingly, those multimillion-dollar gambles are financed by more than one party.

Over the first four years, a blockbuster film will pull in around 25% of its ultimate revenues from global box office, 35-45% from home-video/DVD, and 15-25% from TV licensing deals.

Clearly, at today’s increasingly common $170 million negative costs, tentpoles are an expensive proposition even before P&A and subsequent video/DVD marketing costs kick in.

But there are other, hidden factors that can eat into the final earnings tally.

When early buzz is poor, as it was with “The Hulk” and “Sinbad,” just securing sufficient screens for wide releases can mean sacrificing profits.

Pundits are doubtful that “Hulk” will turn a profit, since its word-of-mouth and box office, both at home and in some key foreign territories, will hinder its chances of getting big-buck U.S. pay or broadcast TV license deals.

Determining the long-term profitability of a given movie is even trickier: Simple accounting is stymied by the convoluted capital structures of today’s mega-releases.

“Terminator 3: Rise of the Machines” was financed by Germany’s Intermedia, which sold foreign rights to Sony for $75 million and North American rights to Warner for $50 million, against 50% of the gross. Warner spent another $40 million marketing the film in the U.S.

By Goldman Sachs calculation, “T3” needs a hefty $260 million in domestic B.O. to break even in the theatrical window alone. Incrementally, the bank reckons that Warner would earn $10 million for every $40 million over that $260 million hurdle.

So while Warner may indeed turn a small profit on “T3” relative to its more modest investment, it certainly won’t show the return Disney and Pixar will get from “Finding Nemo.”

“The desire to win big comes at the studio level, but the desire not to lose big comes from the corporation,” says film industry consultant and former Warner financial exec Roger Smith.

To be sure, media congloms have steadily been reducing the amount of capital allocated to moviemaking, but beyond keeping studio heads on a shorter financial leash, few CEOs are dictating what kind of movies are getting made.

And the bigger the movie gamble in terms of its stars, special effects and sheer impact, the more marketing dollars a studio will typically spend to minimize that risk and maximize the downstream returns.

So in fact, the corporatization of the movie biz has magnified the risk through the ever-escalating pursuit of the jackpot.

Hal Vogel, Wall Street portfolio manager and author of the definitive textbook on the economics of Hollywood, says that studio mandarins are overly focused on sequels, first weekend results and franchise potential.

“They’re not in the movie business anymore but the banking business. They look at tentpoles as franchises and brands to be milked and extended.”

Veteran media analyst David Londoner adds, “The film business these days requires a lot of capital, and the return on that capital over the short to medium term is not particularly good.

“The problem is that the minute the business gets profitable, usually through a new market such as DVD, talent takes it away through salaries and participations.”

Vogel says today’s tentpoles are indicative of a good idea that’s been over-extended.

“The problem is that a successful strategy is now breaking under its own strain, with a crowd of tentpoles every weekend,” Vogel says.

The extravagant budgets are spread out over so many investment partners, says Vogel, that nobody makes a whole lot of profit in the end.

But so far, Wall Street seems content with the latest gaggle of big-buck B.O. pics. Despite this season’s embarrassments, proponents of the tentpole phenom point to strong underlying Hollywood economics.

Even though only a few of this summer’s event pics will recoup their costs on global box office returns alone, there is one genuine proprietary profit center under that model: the film library.

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