The Demise of Movie Theaters?

Source:  https://www.the-numbers.com/market/
2017 = Projection

Many analysts have focused on the potential demise of traditional cable television service, given the pace of cord cutting and the rapid rise of direct-to-consumer services such as Netflix and Hulu.   Perhaps more attention should be focused on the fate of movie theaters in this new entertainment era.  The chart above shows that movie ticket sales  in the United States have been declining over time, having peaked back in 2002. However, revenue has risen from $5.31 billion in 1995 to $11.05 billion in 2017.   Movie theaters have driven revenue by raising average ticket prices.  

Average ticket prices have more than doubled in the past 12 years, outpacing inflation.   The average inflation rate equaled 2.18% during this period.  Movie ticket prices have risen by 3.31% per year.  Of course, movie theaters have driven additional revenue through the sale of concessions and the addition of meal and drink service in theaters.  However, one has to wonder how long movie theaters can make up for lost box office ticket sales by increasing prices.   Moreover, this new story from Bloomberg Businessweek suggests that Disney may gain leverage over theaters as a result of the Fox deal, and it may use that clout to extract more revenue from theaters.  According to Businessweek,

Usually a film’s box-office revenue is split evenly between exhibitors and the studio. But Disney previously has gotten theaters to hand over a larger share—sometimes more than 60 percent—on its biggest, most popular films, such as the Star Wars series. Now it could try the same tactic with Fox’s Avatar, which has four sequels in the works. “While the future of movie exhibition looks increasingly dim, a Disney-Fox merger will elevate its level of pain,” says Rich Greenfield, an analyst at BTIG LLC.

The notion that Disney could take a larger share of the box office revenue seems quite plausible.  Movie theaters would suffer additional pain unless Disney/Fox can reinvigorate movie production and get more hits into theaters.  Still, it seems unlikely that new hits will reverse the long term trend taking place since the early 2000s.  

The Disney-Fox Deal: Scale is NOT the Most Important Rationale

This week, Disney acquired a significant portion of the 21st Century Fox business for $52.4 billion. What is the rationale for the deal? Fortune's Andrew Nusca took a crack at explaining why this deal makes sense. He begins by arguing that, "scale matters."

The traditional entertainment industry is consolidating (see: Comcast-owned NBCUniversal; Verizon-owned AOL and Yahoo; the pending AT&T-Time Warner deal) as new entrants from Silicon Valley and beyond—Netflix, Apple, Amazon, Google and Facebook—enter the fray. Size is an important leverage point to control pricing and distribution. 

Hmmm... I'm not so sure that scale should be the primary rationale for this deal. Does Netflix have the type of scale that some of these other firms have? Has that stopped them from disrupting the industry and generating strong growth and profits? To me, scale seems to be a far too simplistic explanation for this deal. Scale alone will not solve the problem of customers defecting from ESPN and depriving Disney of substantial cable fee revenue streams.  

The article goes to discuss the importance of franchises. Nusca cites the acquistion of franchises such as X-Men, Avatar, Fantastic Four, Deadpool, and The Simpsons.   Ok, now we are talking.  Disney CEO Bob Iger has had a great deal of success acquiring characters and franchises (Pixar, Marvel, Lucas Films), and then leveraging those franchises using the broad array of businesses in the Disney portfolio.  

Nusca also cites technology. He writes, "Disney’s acquisition of Fox’s interest in Hulu gives it majority interest in streaming-media player Hulu. It also allows Disney to apply streaming technology from BAMTech, an earlier acquisition, to Fox assets."   We have all been reading about the struggles in Disney's television business, particularly at ESPN.   They have been discussing several experiments with streaming services, and they have removed content from Netflix and will be moving it to their own streaming service in the near future.  In the end, Disney has to solve this problem with regard to cord cutting and streaming.  Perhaps the Fox deal will help them do that.  The scale achieved through the deal isn't the solution though... success will come if they find a new way to distribute content to consumers in a world of Netflix, Amazon Prime, and rampant cord cutting, skinny bundles, etc.   That's the strategic challenge that will shape Disney's future and ultimately affect the outcome of this bold acquisition.  

Fox, Time Warner, and the Perils of Vertical Integration

The news broke this week about a possible Fox takeover of Time Warner.   As you read these reports, you may have noticed many of the key arguments for why this deal would make sense, i.e. powerful synergies exist between the two media/entertainment companies.  However, yesterday's Wall Street Journal featured a terrific article examining the perils of vertical integration with respect to this  deal.   Note that Time Warner is a major producer of television shows, which it sells to various broadcast networks.    Fox, of course, owns a major television network (and a variety of cable channels).  Warner Brothers is one of the only major TV studios not connected to a major broadcast network (Sony is another).  In the article,  Time Warner CEO Jeff Bewkes says, " Being the leading independent supplier to all the broadcast networks makes us the preferred home to the top writers and producers on TV which, in turn, makes us indispensable to those networks."  Lee Dinstman, a partner at the Agency for the Performing Arts, explained, "The fact that [Warner] has the freedom to take a creative idea to the proper home, instead of just selling to a captive network, can be incredibly attractive." 

What happens if the two firms merge?  Will the loss of independence hurt the Warner production studios?  Put yourself in the position of a programming chief at one of the other major broadcast networks.  When Warner Brothers studios comes pitching a new TV show, what will you think?  You might wonder:  "If it's such a great show, why is it now being broadcast on Fox?"   You may conclude that Warner Brothers is trying to push lower quality shows out to your network.  Note that many firms are vertically integrated in the industry.   Many of the in-house studios at other firms place most of their shows on their own networks. For instance, the article notes that Fox studios has 18 shows on major networks at this time; 14 of them are on the Fox network, while only 4 have been sold to other networks.   Is that because it's the most profitable decision, or is it because other networks are reluctant to buy from the competition?   That, in a nutshell, is one of the perils of vertical integration.  A firm such as Warner Brothers ends up competing with its own customers, creating some challenging conflicts of interest. 

ESPN Faces New Competition

The Wall Street Journal reports that ESPN is launching a significant advertising blitz in support of its "SportsCenter" franchise.  For the first time, ESPN will be advertising the program on other platforms besides its own networks. 

What has triggered the new campaign?  Clearly, the launch of Fox Sports Network and its flagship nighttime news and highlights show has caused some concern in Bristol (headquarters of ESPN).   ESPN, in fact, faces a number of new rivals.   NBC and CBS both now have cable sports channels, and many of the regional sports networks run their own nighttime news and highlights shows to compete with ESPN SportsCenter.

What's caused all the new competition to emerge?  In my view, television networks have focused even more intensely on sports in recent years, because live sports draws young audiences in a world where those young viewers can access other programming content via DVR, Netflix, HBO, the web, etc.

At this point, many of the competitors offer shows that do not look and feel dramatically different than SportsCenter.  The real threat will come if someone figures out how to differentiate successfully.  Beyond that, the threat to ESPN comes as much from substitution as it does from imitation. What do I mean by that?  A preoccupation with new rivals should not preclude ESPN from thinking about the fact that many young people can learn about scores and watch highlights from their tablets and smartphones, and therefore, may be less likely to watch SportsCenter than in years past.  ESPN has done a great job of offering other ways of accessing content, but of course, there are a plethora of options out there for news, scores, and highlights.  Just in the way that SportsCenter made the sports segment on local evening news fairly irrelevant, now digital platforms may be putting a dent in SportsCenter.