Author: Steven Madoff
Steven Madoff was an Executive Vice President of Business and Legal Affairs for Paramount Pictures Corporation from 1997-2006.
The recent announcement by the Antitrust Division of the Department of Justice that it is planning to terminate the 70-year-old Paramount Consent Decrees leads to reflection on how culture, business models, the law, and technology intersect and impact one another.
The history of the motion picture business resonates with the evolution (and sometimes revolution) of technology, the industry’s adaptation of its business models to respond to these changes in technology and the impact of these changes and adaptations to cultural transitions and transformations.
Virtually from its birth in the early 20th century, the motion picture industry attracted the scrutiny of governmental regulators. As early as the 1920’s, the U.S. Justice Department started looking into the trade practices and dominant market share of the Hollywood studios.
The Studio System
In the early 1930’s, the Justice Department found that the major studios were vertically-integrated monopolies that produced the motion pictures, employed the talent (directors, writers, actors) under long-term exclusive contracts, distributed the motion pictures and also owned or controlled many of the theaters that exhibited the movies. This was sometimes called the “studio system.”
Particularly troubling were the studios’ practices of block booking and blind bidding. Block booking is the practice of licensing one feature film or group of feature films on the condition that the licensee-exhibitor will also license another feature film or group of feature films released by the same distributor. Block booking prevents customers from bidding for individual feature films on their own merits. Blind bidding or blind selling is the practice whereby a distributor licenses a feature film before the exhibitor is afforded an opportunity to view it. These practices were particularly onerous when applied against independent theater owners not owned or affiliated with the studio-distributor.
It seemed like the time had come for the government to force the studios to divest their ownership of the exhibition side of the business. But the Depression intervened and the studios convinced President Roosevelt that the country needed a strong studio system to supply movie entertainment to the populous as a relief from tough economic times. President Roosevelt therefore delayed any action requiring the studios to divest their theaters under the goals of the National Industrial Recovery Act.
The Paramount Consent Decrees
But, by 1940, the Department of Justice filed a lawsuit against the studios alleging violations of Sherman 1 and 2—restraint of trade and monopolization. The claims were made against what were then called the Big Five Studios, all of which produced, distributed and exhibited films (MGM, Paramount, RKO, Twentieth Century-Fox and Warner Bros.) and what were called the Little Three studios, which produced and distributed films but did not exhibit them (Columbia, United Arts and Universal).
At the time, Paramount was the largest studio and exhibitor and was first-named in the lawsuit, and so in 1940 when the studios reached a settlement with the Department of Justice, the resulting arrangement became known as the Paramount Consent Decrees.
As part of the Consent Decrees, the Studios were not required to divest their ownership in theaters; however, block booking was dramatically cut back (e.g., no tying of short subjects to feature films and no “packages” in excess of five feature films) and blind bidding was prohibited. The parties agreed to a 3-year period for the Consent Decrees during which the Department of Justice would monitor compliance by the Studios.
By 1946, however, the Department of Justice had determined the Studios were not in compliance and brought the case back to the Federal District Court. After the trial, the Court ruled that the Studios could no longer engage in block booking, but did not require them to divest their ownership in theaters, which the Department of Justice had asked for. Both parties appealed the case, which eventually reached the US Supreme Court.
In a 7-1 decision, written by Justice William O. Douglas, the Court found, among other things, that block booking was a per se violation of Sherman 1 and in remanding the case to the District Court recommended that the Studios be ordered to divest their ownership in theaters. But before the District Court rendered a decision on whether the Studios should divest their theaters, one of the Big Five Studio defendants, RKO Pictures (then controlled by Howard Hughes) decided to sell its theaters. After that, another Big Five Studio defendant, Paramount, sold its theaters.
New Technologies like Television
Interestingly, just as legal decisions were being rendered and studios were therefore compelled to reconsider their business models, a new technology—broadcast television—was being introduced to the national population, leading to deep-seated cultural changes in the way the population spent their free time and engaged in entertainment, and the birth of whole new business models for the entertainment industry. It is hard to precisely identify which developments caused which changes, but clearly the entertainment landscape was radically changing.
The movie-going population dropped precipitously from close to 100 million regular moviegoers in 1948 to less than 50 million in 1958. This may have been, in part, because the studios were now unable to block book a year’s worth of films and, therefore, stopped producing as many movies or it may have been because broadcast television was now cannibalizing consumers’ free time, meaning they went outside the home to movie theaters less often. Probably, it was both reasons.
Now the regular movie-going population (those attending on average one movie per month) is only about 10 million (against a population that is more than two times what it was in 1948), and even broadcast television has seen its viewership numbers cannibalized first by cable and pay television and then by home viewing physical media (videocassettes and videodiscs) and today by internet streaming and on-demand services and even video games and other media, including social media, a cultural phenomena that did not exist in any significant way 25 years ago.
The End of the Paramount Consent Decrees
So it is in this current fragmented market where the percentage of regular moviegoers relative to the total population is less than one-tenth of what it was in 1948, and where consumers can view their entertainment in a variety of ways and on a variety of screens (as opposed to the single choice of a single screen in 1948) that the Department of Justice is reviewing whether the Paramount Consent Decrees may be antiquated and no longer applicable to today’s environment and business structures.
Some experts agree that terminating the Paramount Consent Decrees is long overdue because the business models today, where the consumer has a plethora of choices on how to watch movies, don’t require monitoring of studios licensing practices with respect to exhibitors. Technology has made the free market freer, some might say. Others believe that the dangers and risks that led to the Paramount Consent Decrees (monopolization and restraint of trade) still exist in the motion picture industry today even with the changes brought about by technology.
Questions for the Future of Competition in Entertainment and Media
Whichever side you come out on, it is worth flagging those developments and behaviors to look for and monitor in the event the Consent Decrees are terminated.
Here is what I will be looking for.
- Will the Studios Start to Buy Theaters Again in Order to Vertically Integrate Their Businesses?
First of all, who are the Major Studios now?
It is certainly not the same studios that dominated the business in the 1940s. It is not even the same seven Major Studios that led the industry when I started practicing in the 1980s (i.e., Columbia, Disney, MGM, Paramount, Twentieth Century-Fox, Universal and Warner Bros.). Now a case can be made that the Major Studios are Disney (which recently acquired the Twentieth Century-Fox movie assets), Warner Bros. (which was recently acquired by AT&T), Universal (owned by Comcast), Netflix (an internet streaming service with over 100 million subscribers), Amazon (an e-commerce company) and Apple (primarily a device manufacturer).
The next tier might include Paramount (owned by Viacom, a broadcast and cable channel company), Sony Pictures (owned by a consumer electronics company), Lionsgate and MGM. Notably, some of these companies are already completely vertically integrated. For example, Netflix produces much of its own content and markets directly to consumers. Universal and Warner Bros. produce much of their own content and through their parent companies (Comcast and AT&T, respectively) reach their consumers directly. Disney recently launched Disney+ to compete with Netflix by streaming movies and other Disney content directly to consumers.
Currently, the exhibition business in the U.S. is dominated by three chains (AMC with over 8000 screens in over 600 theaters, Regal with over 7000 screens in over 500 theaters and Cinemark with over 4000 screens in over 300 theaters), along with a number of small independents.
Note that the difference between the screens number and the theater number is because most screens are within multi-screen multiplex theaters with 8-24 screens per theater. This is a big change from the 1940s-1970s where each theater generally housed a single screen. Therefore, one issue is do the studios really want to re-enter the exhibition business, which is a very different business from what they are in now. Exhibition, to a large degree, involves real estate ownership, leasing and management and retailing snacks, candy, popcorn, meals and drinks; this is very different from the electronic and digital transmission businesses that the parent companies of the studios are in now.
Another issue is if one or more studios did enter the exhibition business would they enter on a large scale or a small scale. Would they look to buy a large chain or perhaps just buy a few key theaters in prime markets to showcase their films. After all, Netflix, for example, is in the subscriber and streaming business. They only need a few theaters to qualify their movies for awards and promote their films’ availabilities on its internet streaming service. Of course, if any studio does enter the exhibition business on a large scale it will be important to watch if independent producers without leverage to place their pictures in theaters will be harmed in the process.
The second question, however, is even more interesting:
- Whether or Not The Studios Enter the Exhibition Business, What Trade Practices and Behavior Will They Engage in?
For example, would they re-engage in some form of block booking where they would try to force exhibitors to license less appealing films in order to license the more popular films?
Currently, each of the three major exhibition chains probably has enough buying leverage to resist any such tying arrangements. In addition, most of their screens are within multi-screen multiplexes so the large chains could probably manage to show less appealing films on at least one of the screens within the multiplex if necessary. But independent theater owners, some of whom have single screen theaters, may still be vulnerable to aggressive trade terms offered by distributors.
Similarly, will the studios engage in blind bidding or selling where exhibitors are required to make buying decisions without viewing the offered film? Again, major exhibition chains can probably resist this practice but can independent theaters owners? Probably not.
This leads to the third question:
- What Will “Windowing” Look Like in the Future
Windowing refers to the practice of granting exclusive periods during which a film is exploited in a particular medium of distribution. For example, in the 1980s, it was customary industry practice for a studio to license each of its feature films for exploitation in theaters exclusively for six months before that film first appeared in the next “window” or medium of distribution, namely home entertainment (i.e., videocassette at the time).
Home video retailers would then be “protected” for a six-month period of exclusivity before the film appeared in its next window or medium of distribution, namely pay television. It would then be shown on pay television for 12-18 months before it was shown on the next downstream medium, namely broadcast television.
The rationale for this was that the studios wanted to derive the greatest return on their production and marketing investments by generating the greatest revenue from each “window” or medium of distribution. And under the copyright law’s grant of exclusivity for the copyright holder’s “bundle” of exploitation rights, this was possible and, in fact, desirable from the studio’s perspective.
As time went on, new “windows” or media were introduced, carving out new exclusive “windows” (e.g., pay-per-view television, basic cable television, video-on-demand). Moreover, as particular media of distribution grew and gained negotiating leverage, average window lengths started to be compressed so that currently the typical window between first theatrical exhibition and first home entertainment medium is generally 60-90 days, reduced from 180 days. Theaters have, not surprisingly, resisted this shortening of their exclusive window, even by refusing to exhibit a picture where the distributor pressed for a reduced period.
That battle for “windows” has gone on for over 30 years, and then internet streaming services came along. Netflix, the first major streaming service to compete head-on with the traditional studios, invested heavily to produce theater-quality feature films. But its main source of revenue is from monthly subscriber fees, not necessarily from the sequence of exploitation windows or media from theatrical exhibition downstream to television syndication. Accordingly, they rely more on signing up and retaining subscribers than on a split of box office revenue. Therefore, they were able to release a picture like Martin Scorsese’s The Irishman, with a production budget in excess of $150 million in a small number of theaters for only a couple of weeks (primarily for promotional and awards purposes) before making it available on its streaming service where other studio theatrical releases are usually held back for 6-12 months.
So it will be interesting to see how the studios, whether or not they re-enter the theatrical exhibition business, will manage the windowing issue. And, as in the past, it will be worthwhile to monitor whether independent theater owners and independent film producers will be harmed in this new competitive landscape.
After all, if the streaming model where there is no sequence of “windows” prevails, will independent theaters be able to survive in an environment where they do not “get the first bite of the apple”? And will independent producers be able to survive in an environment where they are unable to recoup their production and marketing costs by maximizing revenues from the sequential “windows” of distribution?