OPINION: WB on VOD

On the eve of the Consumer Electronics Show in January, Warner Bros. shocked its long-time technology partner Toshiba by dropping its support for Toshiba’s HD DVD format and embracing Blu-ray Disc exclusively.

The move was the coup de grace for HD DVD; Toshiba abandoned the format a month later, making Blu-ray the winner of the long-running high-def DVD format war.

In light of subsequent events, however, Warner’s move may not have been such a ringing endorsement of Blu-ray, either.

In both its strategic moves and the public comments of Warner executives, it’s possible to see a studio adjusting to a world in which DVD isn’t quite the center of economic gravity it has been for the past decade and where top-line revenue growth, particularly from the ancillary distribution channels, is no longer a given.

In comments included in a long and interesting profile of Time Warner in last Sunday’s New York Times, to cite one example, Warner Bros. Home Entertainment president Kevin Tsujihara made it clear that the studio’s focus has shifted from managing the in-home movie business for growth to managing it for margin.

“We are facing a marketplace where consumer spending is relatively flat,” Tsujihara told the Times. “Our challenge is in how we go about improving margins in this environment.”

One way to do that, Tsujihara said, is to convert the DVD rental market to video-on-demand, where the studio’s share of the consumer dollar is about twice what it gets from a DVD rental transaction.

“Even if you get modest growth, you can grow the margins, which help the most important line, which is the bottom line,” he said.

To that end, Warner moved earlier to begin issuing most of its new releases on VOD day-and-date with their DVD release.

One of the rationales for moving to a high-def optical disc format, of course, was that it could restore both growth and margins to the DVD business.

Even there, however, Warner seems to be betting on other ways of delivering high-def movies to the home.

As part of its 85th anniversary celebration, Warner announced last week, the studio is releasing a collection of its classic titles, including Casablanca, Doctor Zhivago and Rebel Without a Cause, for the first time in high-definition on VOD prior to their release on Blu-ray.

What about digital formats? Aren’t they supposed to usher in a new era of growth for content owners?

Perhaps, but for now, as Warner Bros. chairman Barry Meyer made clear in the Times article, they remain a miniscule part of the studios’ business.

“I probably spend three-quarters of my time talking about things that are about 10% of our business,” Meyer lamented.

And therein lies the studios’ most fundamental challenge, as well as the greatest danger facing Warner from its current strategy.

The cost of making and marketing movies continues to climb, reaching an average of $106 million a picture last year, according to data compiled by the Motion Picture Assn. of America. But the main engine driving the studios’ revenue growth for the past decade—DVD—has stalled.

Managing for margin may help hold the bottom line for a time, but life is certainly easier for companies when their underlying business is growing.

Warner’s response—indeed all of Time Warner’s response according to the Times article—has been to adopt a strategy essentially of non-strategic engagement with the market.

“The last number of years, all you have heard about is new and better ways to distribute content,” Meyer said. “At some point, I think distribution gets commoditized,” leaving content as the more valuable component.

One of the side effects of Warner’s abandonment of HD DVD, blowing up its relationship with Toshiba in the process, was to remove for the studio any particular strategic interest in the high-def disc business.

Thus, it’s happy to pursue the high-def VOD business, even if that means consumers get a mixed message about the best source of high-def movies. As of right now, more households are capable of receiving high-def VOD than of watching Blu-ray discs, thanks to the rapid growth in digital cable subscriptions.

Time Warner’s goal in adopting a content-centric approach is to make it easier for Wall Street to value the company.

The danger, as the record companies discovered, is that when content owners don’t engage strategically with the market, someone else will do it for them. And they may not like the results.

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