In Greek mythology, Hecate was the goddess of intuition who possessed three-way perspective that allowed her to bridge the gaps between past, present and future. She was particularly useful at crossroads, as she could discern origins and determine where each of the two paths would lead. Yet even Hecate, with her third sight and intuition, would be left dazed and dizzied by the dilemmas facing the entertainment industry today.
Though the United States has largely emerged from the grip of the coronavirus pandemic, the industry issues raised by the unprecedented circumstances continue to engulf studios. The major Hollywood entities are now caught in a schism between traditional theatrical moviemaking and streaming video on demand (SVOD). Old school versus new with pros and cons aplenty.
Should studios relinquish the high-upside revenues of theatrical and go all in on streaming, the apple of Wall Street’s eye? Can SVOD replicate the financial success of a box office hit?
To better understand the multifaceted strategic choices studios must now make, we looked at the film industry’s shrinking theatrical windows, the divide between theatrical and streaming intellectual property, and the value of streaming subscriptions versus box office totals. This highlighted the conflicting approaches studios are taking to maximize the value of their IP in a landscape fraught with challenges and uncertainty.
Shrinking the theatrical window
With movie theaters largely shuttered during the majority of 2020, studios began releasing films directly to consumers via premium video on demand (PVOD) and various streaming platforms. This expedited the collapse of exhibitor’s outmoded exclusive window requirements. Hollywood has now shifted from a 60-90 day exclusive theatrical window where films didn’t arrive on SVOD platforms until roughly seven months after release to movies being rerouted to streaming after 45 days or less in theaters. It’s as seismic of a shift as Chuck Berry pioneering rock n’ roll music.
“So far, I see little evidence that the shattered theatrical windows are impacting box office performances of movies that were universally expected to be successful pre-pandemic and are currently pretty successful,” Scott Mendelson, box office analyst at Forbes, told Observer. Both A Quiet Place Part II (which has grossed $146 domestic since its Memorial Day Weekend debut) and F9 ($122 million since opening June 25) are performing relatively in line with his pre-COVID estimates.
“Right now, they love to double dip by getting their box office profits and an SVOD bang. But studios are increasingly realizing that shorter theatrical windows lead to bigger SVOD bangs.”
Most major blockbuster titles earn the majority of their gross within the first 38 days of release, which falls in line with the new windows. Current consumer behavior, which still exists within a vacuum of abnormality to a certain degree, seems to imply that the theatrical window for pre-determined successful features doesn’t appear to be affected by streaming, Mendelson argues. We’ll know more when Marvel’s Black Widow opens day-and-date in theaters and via Disney (DIS)+ Premier Access ($30) July 9. But not every feature film has the benefit of a pre-established branded safety net.
Despite the optimism tentpoles such as Godzilla vs. Kong, A Quiet Place Part II and F9 have brought to executives hoping for a return to traditional distribution, the box office hasn’t rebounded as quickly as the national economy. Domestic ticket sales year-to-date in 2021 ($1.15 billion) are still 38% behind the same span in 2020 ($1.86 billion), per Comscore. The inconsistency is an added incentive for studios to hustle certain films into their streaming libraries. This is especially true with eight major SVOD combatants currently crowding the marketplace.
“Every studio recognizes that movies are important drivers of SVOD,” Rich Greenfield, partner at technology, media and telecommunications research firm LightShed, told Observer. “Right now, they love to double dip by getting their box office profits and an SVOD bang. But studios are increasingly realizing that shorter theatrical windows lead to bigger SVOD bangs.”
With streaming accessibility just a hop, skip, and a jump away, the entertainment industry is emphasizing direct-to-consumer models more and more. There’s a reason the major entertainment conglomerates have undergone significant restructures over the last year.
Deciding between the theater and the couch
Hollywood is running out of consistent big bucks franchises as the potential for IP to become a consistent blockbuster continues to narrow and diminish. Mid-budget fare, star-driven vehicles and original concepts have also faced increasing box office challenges over the last 15 years. If you thought the barren wasteland depicted in Mad Max: Fury Road was desolate and hopeless, take a gander at the entertainment industry’s thinning margins.
“Right now, Hollywood is in the same conundrum it was in two years ago,” Mendelson said. “Outside of Marvel and DC, there’s only about half a dozen big theatrical megabucks franchises.”
There’s only so much value that can be squeezed at the moment. Mendelson points to a best case scenario for an original film like Edgar Wright’s Baby Driver, which earned $227 million worldwide against a production budget of $40 million (discounting marketing) in 2017. With theatrical releases growing riskier and costlier, studios are questioning whether similar smaller-scale films can pull the same profit on PVOD, where the studios generally keep 80% of the revenue as opposed to the standard 50% split with exhibitors.
“Hollywood is in the same conundrum it was in two years ago. Outside of Marvel and DC, there’s only about half a dozen big theatrical megabucks franchises.”
Universal earned more than $500 million in 2020 in PVOD revenue from 10 films, yet Trolls World Tour accounted for roughly one-fifth of that total. The film surpassed Avengers: Endgame as the highest grossing PVOD title in history with north of $100 million. Yet Endgame generated $800 million in theatrical profits alone. The 10 most profitable films across 2018 and 2019 all yielded returns of at least $400 million to their respective studios. That doesn’t even account for revenue generated from secondary windows such as EST, VOD, DVD and Blu-Ray, and eventual SVOD sales. (Endgame earned an estimated $107 million in domestic home market performance, per The Numbers.)
Streaming simply cannot generate the same per picture profitability as a hit blockbuster first released in theaters.
SVOD is being championed as a way to circumvent the challenges of theatrical and, to an extent, it absolutely can. Paramount’s would-be franchise starter Without Remorse is a safer dice roll on Amazon than it is in multiplexes as a new-to-screen concept. Yet streaming platforms still sell themselves to consumers by promoting their collections of theatrical films. For example, Netflix (NFLX) thrives on pictures that were hits a decade ago or were box office bombs in theaters that audiences are now catching up on. Meanwhile, SVOD-only films lack staying power with the average movie losing 63% viewership per day from week one to week two, according Entertainment Strategy Guy. This telling chart from Ampere Analysis via WSJ speaks volumes about the minimal footprint left by streaming exclusive features.
Netflix and Sony recently agreed to a lucrative new licensing deal, with the latter reportedly receiving $1 billion over four years in the pact. The deal suggests that theatrical Pay-One features, which migrate to streaming after leaving theaters, must be valuable to Netflix. It provides the streamer with a steady pipeline of movies that receive prestigious theatrical rollouts and provides Sony with a financial cushion that enables the studio to continue taking bets on movies like Baby Driver and Quentin Tarantino’s Once Upon a Time in Hollywood. In that way, the relationship between streaming and theatrical can be extremely additive, to say nothing of the cross-platform opportunities for shared continuities such as Star Wars.
“I’m of the opinion that Netflix has done just fine with crappy IP.”
At the same time, Netflix spent $469 million to acquire Rian Johnson’s Knives Out franchise, which earned more than $300 million worldwide in its first outing. This removed a new and viable original franchise from multiplexes. Despite the roadblocks and uncertainty of theatrical moviegoing, the streaming powers that be recognize a valuable trickle down effect.
This is one reason why David Offenberg, Associate Professor of Entertainment Finance in LMU’s College of Business Administration, doesn’t believe Netflix’s lack of in-house IP is as concerning in the short-term as others might argue.
“I’m of the opinion that Netflix has done just fine with crappy IP,” Offenberg told Observer. “They’ve got so many movies with so many big stars that are coming from Sony, Lionsgate, etc. that I’m just not convinced they need to have the IP that Disney has to be successful.”
By the same token, it’s not as if studios always need a movie theater to create a phenomenon.
“The Mandalorian is the biggest breakthrough content franchise over the last few years,” Greenfield said. “It’s done more to help the value of the Star Wars brand than any of the recent movies without ever hitting theaters.”
We’re seeing examples of both symbiotic relationships between platforms and antagonistic swipes. It’s a constant struggle of protecting against the downside and swinging for the fences.
Streaming subscriptions vs. box office totals
The tug-of-war between streaming and theatrical should be its own Olympic event. The prospective benefits and pitfalls of each provide enough juicy drama-filled subplots to match an entire season of This Is Us. In the current climate, true value depends on the goals of a given studio.
“I think a successful theatrical run will always make more money on a bit by bit basis,” Mendelson said. “By default, raw revenue earned is more valuable than the perception of success in terms of high viewership on a streaming platform.”
Mendelson points to Eddie Murphy’s Coming 2 America, which garnered 41.6 million hours-watched in its first month of availability, per Nielsen data. Yet the impressive run did not net Paramount any additional money for selling the film to Amazon nor did Prime Video generate additional money outside of subscriptions. “The buck stops here in terms of revenue,” Mendelson surmised.
Despite theatrical ticket sales steadily declining in the U.S. since 2002, per The Numbers, the industry generated at least $10 billion in annual domestic ticket sales from 2009-2019. Worldwide box office totals have hovered around $40 billion in recent non-pandemic years. When healthy, there’s enough money to be made that even Gordon Gekko would be satiated.
But according to a forecast from Lightshed Partners, SVOD subscribers will nearly double from roughly 650 million worldwide at the end of 2020 to 1.25 billion by the end of 2024. By 2025, SVOD services are projected to generate $85 billion in global revenues, per The Wall Street Journal.
In a vacuum, streaming can’t replicate the immediate cash infusion of a box office hit such as Frozen II, which delivered Disney nearly $600 million in theatrical profit in 2019 as well as an estimated $80-plus million in domestic home market sales. But subscriptions represent monthly recurring revenue, which can be more valuable than a box office one-off. In December, analytical firm MoffettNathanson estimated that Warner Bros.’ decision to open its entire 2021 film slate day-and-date on HBO Max and in theaters would cost the company $1.2 billion in revenue for the year. With HBO Max’s monthly average revenue per user (ARPU) approaching $12 (~$144 in annual ARPU), the streamer would need to add 8.3 million new subscribers this year to cover the loss. As of late April, HBO Max was on pace for more than 11 million new subs in 2021.
Wall Street fawns over recurring revenue. For example, Netflix is valued at ≈ 9X annual revenue. If HBO Max adds 11 million subs at $144/year, it could potentially represent added company value of as much as $14 billion. (The WarnerMedia and Discovery merger changes the equation and implies that AT&T was conceding its entertainment ambitions).
M.G. Siegler, General Partner at Google Ventures, said at the time: “Essentially, [WarnerMedia CEO Jason] Kilar is saying the long-term value of HBO Max subscribers is worth more than the box office revenue of not just one of these movies but all of these movies. And if successful, he’s not wrong! But it’s an insanely risky bet to make right now. It totally upends the business.”
Greenfield points out that Netflix generated more revenue in 2019 ($20 billion) than the combined Disney and Warner Bros. film studios ($19 billion). Individual film titles may be devalued in a move to streaming, but they also become key additions to a collective library which can become its own ecosystem.
“You’ll reach more consumers every time,” Greenfield said of streaming. “The subscription business is a better business.”
Perhaps it’s telling that over the last 18 months, nearly every major studio is jockeying for position to be the next Netflix while Netflix isn’t in any rush to become the next dominant theatrical studio.
“I think beyond more cinemas carrying Netflix’s titles seven days in advance of the Netflix drop, the pandemic hasn’t changed much for them,” Kasey Moore, editor-in-chief of What’s on Netflix, told Observer.
Should studios emphasize their streaming services or theatrical studios? The more holistic and cynical answer may be to opt for whichever strategy Wall Street deems most valuable. It’s simply a matter of internal ambition, which varies from studio to studio.
“Stock price,” Offenberg said when asked which medium should receive top billing. “That’s the reality from the CEO’s perspective. The most important thing to them is keeping investors happy.”
In the current marketplace, Wall Street is enamored with the long-term upside of SVOD. With theme parks closed, cruise ships anchored, and movie theaters shuttered in the pandemic, the Walt Disney Company lost billions of dollars in 2020. Yet the company’s share price soared 70% to all time highs because of the explosive growth of Disney+.
For a media CEO of today, it doesn’t matter how many subscribers you have or how many Oscars your studio won, Offenberg argues. What matters most is if the stock price is okay and if the company can stay in business. Right now, as entertainment media conglomerates attempt to appease the whims of investors, that means focusing on streaming whether it’s fair or not.
Maximizing the value of IP
All this leads us to Hollywood’s primary quarry: maximizing the value of IP. Offenberg notes that, historically, studios have gone about this in two ways: price discrimination and ancillary revenues.
Price discrimination can be broken up into tiers with super fans paying a premium to see a film on opening night, a casual fan waiting for a reduced price matinee, and a passive fan waiting until the film comes out on cable. Ancillary revenue covers brand expansion efforts such as toys, merchandise, games, Broadway musicals, etc. All of that still exists. We know studios still value this approach since none of them have permanently given up on theatrical, which is critical for price discrimination.
But on a macro level, studios now face a fork in the road: do they support the theatrical experience or their streaming service (or even throw their weight behind cable channels, which still generate large revenues but are decaying)? If a studio decides that direct-to-consumer business is going to be its top priority, as former Disney CEO Bob Iger said the company would do in 2018, it’s going to need “scale, scale, scale.”
“If you don’t have scale, no one’s watching,” Offenberg said. “Without scale, you can’t compete and you can’t put yourself in that bundle of services that consumers remain subscribed too.” Netflix has scale—which can roughly be defined as the point at which a streamer is reasonably cash flow positive on a consistent basis—thus their churn is low. That’s what every streamer is chasing.
Netflix is the only major streaming service that has reached scale and is generating cash off of its streaming service. All the other major SVOD players are costing their parent companies money (Disney expects Disney+ to reach profitability in 2024; WarnerMedia projected HBO Max to hit that mark in 2024 or 2025 prior to merger). With the FTC and DOJ expected to regulate monopolies more stringently in the digital era, acquisitions are going to become increasingly difficult. Any thoughts that NBCUniversal, ViacomCBS or Lionsgate might have had about joining forces are clouded. If you can’t consolidate and you can’t create organic growth to reach scale through internal means, your streaming service will fold.
“Competing with Netflix, Amazon, Apple, and Disney is not easy,” Greenfield said. “I’m actually shocked how many are even trying to.” Sony Pictures surveyed the landscape and opted to become a content arms dealer raking in lucrative licensing revenue rather than try and play in the same sandbox.
So what’s the right choice?
Reprogramming consumers out of the habit of watching filmed entertainment at home is going to be incredibly expensive, time consuming, and difficult for studios. The pandemic has conditioned audiences to expect immediate gratification. In 2021, consumers practically demand to be able to watch anything, anywhere, at any time. Regardless of which path the major studios opt to take as the world continues opening up, providing flexible access to your programming is key to navigating this new normal.
If a studio opts to prioritize SVOD above all else, it is signaling a desire to intentionally disrupt its legacy media business and endure a significant financial squeeze in the short-term in an effort to gain long-term financial security through scaled streaming. This is a Herculean effort of difficulty given the enormous investment needed to compete. Few services will survive the gauntlet. Those that do will be in a position to generate massive annual revenues.
If a studio decides to continue hedging its bets or forgo in-house streaming all together, it’s a sign that the company is willing to gamble on a decaying business model that still boasts high upside on a film-by-film basis and as a sought after arms dealer. It’s not always quite as costly as a multi-billion dollar pivot to streaming, but it may also lower a studio’s ceiling in the long-term.
Not even Hecate would know what is going to happen next.