Blockbusters: Hit-making, Risk-taking, and the Big Business of Entertainment Read online

  Rather than dividing its resources evenly across the products in its portfolio, a movie studio following a blockbuster strategy allocates a disproportionately large share of its production and marketing dollars to a small subset of products in the hope that they will bring in the lion’s share of revenues and profits. This idea is illustrated in the chart that follows. Even amid considerable uncertainty, the studio bets heavily on the most likely hits. It makes “blockbuster bets”: big-budget productions aimed at mass audiences. Given the nature of the movie-production process—where the trajectory from acquiring a script or the rights to a property to finally releasing a movie can easily take four years—the studio has to make its picks of the most likely winners at a very early stage. Given the fickle taste of consumers, and given the complexities of a production process that often involves hundreds of people, that’s not a simple task. But, the studio’s thinking goes, the rewards will be worth the risk.

  A Typical Pattern of Blockbuster Investments and Outcomes

  As a way of examining Warner Bros.’ strategy, let’s take a look at the year 2010. The studio released twenty-two films that year, spending about $1.5 billion in production costs and upward of $700 million on advertising and other promotional efforts domestically. Warner spent a third of its 2010 production budget on its three biggest titles—$250 million on Harry Potter and the Deathly Hallows: Part 1, $175 million on Inception, and $125 million on Clash of the Titans. Its fourth-biggest investment, the Sex and the City sequel, cost another $100 million. Such big bets often feature not only A-list talent but also elaborate visual effects—spectacular sequences, sweeping shots, large-scale sets, multiple locations, and high-tech stunts, for instance—all of which drive up the picture’s costs. If the movie is based on a successful property such as a book or a character (as the biggest bets, such as Harry Potter, often are), intellectual property rights can also be costly.

  “We have made a conscious decision at Warner Bros. to make four to five movies each year that have a shot at reaching $1 billion in revenues,” one Warner executive said about the studio’s strategy. “And if you commit a large share of your production resources to these few movies, it has implications for your other movies,” Horn explained. “You might make a $60 million movie instead of a $90 million movie. It is a balancing act.” A television executive I talked to made essentially the same point. “People are under the mistaken impression that studios and networks love all their children equally,” he said. “But because there is only a finite amount of production and marketing money available, they have to prioritize.”

  At Warner Bros. under Alan Horn, the expectation was that those movies with the highest costs would also be the titles with the highest revenues—and the highest profits. In 2010, Warner’s results lived up to that expectation. Although the top three biggest bets only accounted for a third of the total production budget, they were responsible for over 40 percent of the domestic and 50 percent of the worldwide box-office revenues generated that year. If we calculate the difference between production expenditures and box-office revenues, it becomes clear that over 60 percent of the year’s total surplus came from the studio’s top three investments, and nearly 70 percent from its top four movies. At the other extreme, the four least expensive movies released in 2010—Flipped, Lottery Ticket, The Losers, and Splice—accounted for just under 6 percent of total production spending but only 4 percent of domestic and 1 percent of foreign ticket sales, adding next to nothing to the surplus. Not all of this surplus is profit, of course—for instance, studios like Warner Bros. share close to half of their revenues with the theaters that screen their movies. But the pattern is clear: Warner’s biggest investments in 2010 delivered the biggest returns.

  So far, so good. But was 2010 just a lucky year, one that happened to be short of one or two big flops that could have seriously altered the picture? Are studios like Warner Bros. taking too much risk with their blockbuster bets? The performance of Warner’s movies over a longer time horizon certainly does not suggest that to be the case. In fact, the 2010 results reflect a more general phenomenon. Consider the chart above, which shows the returns on Warner’s bets from 2007 through 2011, the last five full years of Horn’s tenure. During this period, Horn was running his tent-pole strategy at full force, spending $6.5 billion in production costs. But he was also facing strong competition from rival studios that were following his lead with big bets of their own.

  Warner’s Movie Bets from 2007 through 2011

  The figure plots each of the 119 films that Warner released from 2007 through 2011 (according to research firm Rentrak) by its estimated production budget and worldwide theatrical revenues. For instance, the movie The Hangover cost an estimated $35 million to produce and yielded close to $470 million in ticket sales (of which $190 million came in foreign markets).

  At first glance, the chart may look like a random scattering of data points. The messiness of the data reflects the unpredictability of the demand for theatrical films. Warner made substantial investments in a number of well-known franchises, including Harry Potter and the Batman film The Dark Knight. While several of those were highly successful, other big bets stumbled at the box office—in particular, the $120 million Speed Racer was an unmitigated disaster. (Inspired by a Japanese anime series, starring Emile Hirsch, and released in 2008, it sold well shy of $100 million’s worth of tickets across the globe.) As for the smaller investments, they seemed to present the same mix of hits, also-rans, and outright flops. The Blind Side, The Hangover, and Gran Torino, each costing less than $40 million to produce, all made a killing at the box office, while the equally affordable The Assassination of Jesse James, Whiteout, and Shorts never connected with audiences.

  But take a look at the next chart, which groups films more systematically by their production budgets. Across all films released over a five-year period, the top 5 percent of films accounted for one-fifth of the total production costs and more than one-quarter of worldwide grosses. The top 10 percent of films consumed roughly a third of the costs but generated more than two-fifths of all revenues—and accounted for nearly half of the difference between production costs and revenues. Warner’s biggest investments thus generated disproportionately high returns. On the other end of the spectrum, although they sometimes posted big numbers, smaller investments had little effect on the grand scheme of things. Although the bottom 25 percent of films ranked by their budget (a group that consists of movies made for just below $30 million) accounted for just 6 percent of costs, they generated only 5 percent of ticket sales. And the bottom 10 percent of movies had virtually no impact on sales.

  The differences between films at both ends of Warner’s portfolio may seem small in relative terms, but they are huge in absolute terms. And in the years of its biggest bets, Warner’s total box-office revenues beat those of its main rivals, proving both that a blockbuster focus pays off and that individual blockbusters can significantly lift a content producer’s performance. Some critics might say that Warner Bros. would have been far less successful in the mid- to late 2000s if it had not had the Harry Potter franchise or The Dark Knight. But that is exactly the point: one blockbuster bet can make a year. The best possible outcome of the blockbuster strategy is having a film that lifts the entire bottom line. And the way to get there, my research shows, is by making sizable investments—not by spreading the available budget across a larger number of smaller films.

  How Warner’s Big Bets Stack Up Against Its Small Bets

  The figure shows how much the 119 movies, when grouped by their production costs, account for Warner’s production costs, worldwide box-office sales, and the difference between both (defined as “surplus”). For instance, the top 5 percent most expensive titles account for 22 percent of the production costs, 28 percent of worldwide revenues, and therefore 31 percent of the surplus.

  Horn’s motivations for pursuing the event-film strategy are telling. “I was struck by research that shows that the average moviegoer
in the US only sees five or six movies a year,” he told me in 2012. “And it is even fewer in international territories. Last year, there were over 120 films released by the six major studios, and another 80 by the larger independents such as Summit and The Weinstein Company—that’s hundreds of motion-picture viewing opportunities. There is a tough selection process going on,” he said. “That is why having something compelling is so important—something of high production value, be it because of the story, or the stars involved, or the special visual effects.” The goal, in other words, is to stand out from the competition—to win the battle for attention. That is what the blockbuster strategy is designed to do. “Even the most die-hard fans will not see more than a movie a week,” Horn declared. “You have to make sure it is your movie they see.”

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  The success of the blockbuster strategy is even more apparent when marketing costs are included. Making bigger bets results in advertising efficiencies. “The advertising expenditures for a movie that costs $150 million to make are not twice those for a $75 million movie, even if you saturate the market,” Horn told me. “You need a certain amount to make sure you can support the film nationally, just to tell audiences you are out there. That makes marketing the $75 million movie expensive. But to give it the extra push you expect for an event movie is not going to cost that much more.”

  Although Hollywood studio executives are tight-lipped about their advertising spending, data that I obtained from an independent market research company—one that effectively counts the advertisements placed in various media (from television and newspapers to Internet and outdoors) and estimates its value—back up Horn’s view. Indeed, when we look at Warner’s 2010 movie slate, advertising the bigger productions was disproportionately cheap, as captured in the chart on the next page. The top three movies accounted for a third of the production budget, but those films required only 22 percent of the studio’s $700-million-plus advertising budget. Promoting Inception ate up the highest number of advertising dollars—just over $60 million, or about a third of the movie’s production costs. In contrast, Warner shelled out an extra 75 percent on top of its production budgets to advertise smaller productions like The Town and Life as We Know It, both made for less than $50 million. Once again, bigger films emerge as relatively smart investments.

  With the growing importance of global markets, the relevance of blockbuster bets will only increase. “International box office results are especially strong for event movies,” Horn noted. “That’s where the real growth is. By 2016, the international box office is projected to be $27 billion, much larger than the domestic box office at a projected $11 billion.” Because international theatrical markets are “under-screened”—meaning that when compared to the United States, other countries have relatively few theaters to serve moviegoers—international markets tend to be more selective. “They want four-quadrant movies, and they want stars or characters such as Harry Potter that they know,” said Horn. “Those are the movies that travel well.”

  Production and Advertising Spending: Why Warner’s Big Bets Pay Off More

  The figure shows, for Warner’s 2010 movie slate, how much each title received of Warner’s total production and advertising budget. For instance, the second-most-expensive movie released in 2010, Inception, used 12 percent of the production budget but only 8 percent of the advertising budget. Ranked number 18 on the list with 2 percent of the production budget, the movie Cop Out received as much as 5 percent of the advertising budget.

  Movies make much of their revenues outside theaters—from such sources as DVD sales and rentals, streaming rentals, and television—which in theory is a way for smaller movies to make up for the lackluster returns. But in reality, the best predictor of a movie’s revenues in subsequent distribution channels (or “windows”) is its performance in the theatrical window. “All the ancillary markets are driven by theatrical,” Horn said. “The revenues from DVD sales are almost directly proportional to box-office revenues. So those ancillary markets do not bail the smaller movies out.” In fact, when taking into account those other sources of revenues, the effect of bigger investments generating a better payoff is only magnified.

  Properly executing a blockbuster strategy is more than just a matter of spending more money in order to generate higher revenues, of course—if the game were really that simple, anyone with deep pockets could be a successful studio head. Instead, it is about making the right bets. “There is no hope if you just make a bad movie,” Horn declared. “You can try everything you want with your release strategy, but if the movie is not good enough, you are done. You have to have a good idea, and execute it well.”

  Luck helps as well. Warner Bros. had heaps of it with its biggest blockbuster, Harry Potter, as illustrated by the story of how Warner came to acquire the rights. “We had the rights to Harry Potter even before the book was a success in the UK,” Horn told me. “A woman in the UK happened to buy the book in a store one day, as a gift for a family member. She liked it so much that she showed it to her boss, David Heyman, whom she worked for as an assistant, saying ‘You have to read this—this is brilliant.’ Now get this: David had a production deal with Warner Bros. And one of his childhood friends, Lionel Wigram, was an executive with us. So he pushed us to option it. But nobody knew what they had until the book exploded, and off we went.” Warner’s good fortune did not stop there, Horn recalled: “Before the book became known, my predecessor offered the Harry Potter property to [rival studio] DreamWorks in a partnership—and they passed. And then of course it became a hit, a little rocket ship that was taking off, and they called back and said, ‘This was offered to us; we want to be partners with you.’ But I said, ‘No, you turned it down, and the offer is off the table.’ I had it in writing. Now isn’t that something?”

  Harry Potter aside, have Horn and his team sometimes picked the wrong titles to focus their attention on? Yes. Each time one of Warner’s big-budget event movies bombed, the studio incurred a substantial loss. “Speed Racer made a bigger dent in our bottom line than any other movie in 2008,” recalled Horn. “The Wachowski siblings wanted to make a family picture, with bright colors, giving it a cartoonish feel. It was very costly and, in the end, too big a leap. But to this day I don’t fault them. It could have been the most innovative movie in history. You have to take risks.” He added: “You’ve got to realize that someone walked into somebody’s office at Pixar one day, saying they had an idea for an eighty-year-old man and a ten-year-old kid to take off in a house fueled by a balloon. You can see people go ‘Wait a minute.…’ But they made it anyway, and it was a tremendous success.” (Up grossed well over $700 million at the box office.)

  And has Horn greenlighted breakout hits that no one at the studio saw coming? Absolutely. The Hangover, for instance, was produced for only $35 million, but it pulled down $470 million in ticket sales, shattering every record for R-rated comedies along the way. Not surprisingly, Warner turned the sequel into a tent-pole movie, with a production and marketing budget set accordingly—this time, the studio took no chances. The same is true for Sex and the City and its sequel: the first movie was a small bet that performed much better than expected, and the second got the full tent-pole treatment.

  The blockbuster strategy is certainly not risk free, and there are limits as to how much studios can spend on any given film. But what is critical to understand is that a studio would be taking a greater risk if it put more emphasis on movies with lower production budgets—if, effectively, it made a larger number of smaller bets. It may sound counterintuitive, but for a studio like Warner Bros. those smaller bets could, in a typical year, actually lose the studio more money than they bring in. Even if some smaller investments do make money, a dollar spent on a big-budget film will average a much higher profit.

  Another film studio, Paramount, learned these lessons the hard way—much as NBC did. In the late 1990s, Paramount chose to steer away from what its management saw as a dangerous reliance on big bet
s. It adopted a philosophy of sticking to mid-range budgets and lesser-known stars, and boasted that it would run its movie production slate “like an actuary chart.” But while the mantra on the studio lot was protecting the downside, the studio’s cautious strategy ultimately had the opposite effect: by early 2004, Paramount had become known for mostly B-grade films featuring mediocre talent, and its profits had fallen by more than 30 percent. Realizing what was happening, Paramount’s executives promptly reversed course, letting the creative community know that the studio was once again willing to pay top dollar for its movies, in part by giving Adam Sandler, Charlize Theron, and other top actors their highest salaries to date to star in upcoming movies. “We intend to relax risk aversion policies and to make more money available to finance more challenging productions,” said Sumner Redstone, chairman of Paramount’s parent company Viacom, at the time.

  Only a mighty studio with significant scale and resources can aggressively pursue a blockbuster strategy—after all, it must be able to absorb an occasional loss the size of a Speed Racer or The Adventures of Pluto Nash. (The latter was one of the biggest box-office disasters of all time, costing a reported $100 million to produce but generating only $4 million in US theaters in 2002.) Like Warner Bros., Disney’s film studio has the resources to invest in blockbusters. So don’t expect the studio to dial back its bets on big movies under Horn’s leadership.

  Some of the reasons why the cost of making movies can run into the hundreds of millions of dollars are easy to understand, but other investments may be more difficult to comprehend. Film studios or television networks paying an actor or actress millions of dollars based on a hunch that audiences will want to see that person star in a movie or show, for instance, especially when there is no shortage of people waiting for their shot to make it in show business. Or producers investing heavily in an untested script just because the subject matter, be it superheroes or vampires, is “hot.” Can’t entertainment companies consistently avoid such enormous expenses? To find the answer, it’s useful to consider why entertainment executives often get caught up in bidding wars. One of the most daring bids in the world of book publishing may be a good place to start.