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How Hollywood Learned to Stop Worrying and Love the VCR : Home Video Has Diminished the Power of the Studios--But Not Their Profits.

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<i> James Lardner is the author of "Fast Forward: Hollywood, the Japanese and the VCR Wars," published by W.W. Norton and Co. </i>

In August, 1985, the Video Software Dealers Assn. held its annual convention in Washington, D.C. Six thousand video dealers attended. So did Lena Horne (with the home video version of her one-woman Broadway show, “The Lady and Her Music”), Jane Fonda (with her fifth exercise cassette, “The New Workout”) and Joan Collins (with a series of old Hollywood tear-jerkers glossily repackaged as “The Joan Collins Home Video Collection”). Here was a Washington gathering with no talk of federal deficits, no cries about the balance of trade and, for sure, no tirades against the Japanese, the people who had made it all possible. If you were in the video business and you weren’t making plenty of money, you had no one to blame but yourself. If you weren’t in the business, well, now was the time to get in, and the VSDA convention was the place.

The movie studios had divided up the honor of feeding the dealers, with Walt Disney Productions providing a lunch that featured a Radio City Music Hall-style song-and-dance show and Paramount Pictures Corp. giving a “Star-Spangled Picnic” under a vast tent on the grounds of the Washington Monument, followed by a concert at Constitution Hall. Displays of affection between Hollywood executives and video retailers have become fairly common in the past few years, and the explanation is not hard to come by. Gross revenues from the sales and rentals of videocassettes--a projected $3.5 billion by 1985’s end--were closing in fast on the gross revenues of the theatrical movie business. Los Angeles video store owner George Atkinson, one of the industry pioneers attending the Washington affair, put it this way: “We’re catching the big daddy!”

Home video has since caught up and passed the big daddy. “This industry is prone to obscene profits,” observes Leonard White, former president of CBS / Fox Video. White’s company had made $60 million in 1985 on gross earnings of $250 million. When 20th Century Fox needed a $75-million loan, it borrowed the money through CBS / Fox rather than go to a bank. The child had become more credit-worthy than the parent.

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There was a time when the term video software did not elicit such fond feelings among the leaders of the movie industry. In the summer of 1976, Andre Blay, a Michigan-based distributor and servicer of video equipment, wrote to the studios inquiring about the right to market their movies on videocassettes. Only two companies even bothered to respond, and one of them, MGM, simply informed him that the matter--not his proposal in particular but MGM’s attitude toward videocassettes in general--was under study. That fall, Universal Pictures filed a lawsuit charging that Sony, simply by selling its Betamax VCR, was a party to copyright infringement; the case dragged on until January, 1984, when the U.S. Supreme Court ruled in Sony’s favor. Sidney Sheinberg, the president of MCA-Universal, felt so strongly about these matters that he renounced the co-chairmanship of a benefit for the American Film Institute upon learning that Sony was contributing $300,000 to the same cause. “I cannot condone nor support any institution which is so oblivious to the interests of the Hollywood community,” Sheinberg explained.

Although rarely expressed with such vehemence, fear of the VCR was the rule, not the exception, in the Hollywood of the late 1970s. Selling movies on videocassettes was an idea that went against a tradition as old as Hollywood itself--that of retaining title to every print and selling the right to see a movie rather than the movie itself. Once a print was put out in such a form, how could the studios keep pirates from getting their hands on it? But the ‘70s were a tumultuous time for Hollywood. New managements were coming and going with considerable frequency, and it was only a matter of time before one of the studios broke ranks.

By 1976, 20th Century Fox had weathered a few hard years. There was not a lot of idle cash sitting around in its money bin--although a year later “Star Wars” would change all that. So the company was ripe for a new idea, especially an idea that wouldn’t cost much up front and promised to make some money in the foreseeable future. In addition, Fox had a subsidiary called 20th Century Fox Telecommunications. Running it was a young executive named Steven Roberts, who bore a resemblance to Dick Clark of “American Bandstand” fame. Cable TV was Roberts’ principal domain, and it seemed to him that Hollywood had misjudged cable at first, seeing it only as a threat to movie theaters rather than as a way to reach a new audience. Roberts took it as part of his mission to save Fox from making such a mistake again. “I took the position that I never wanted to see our company let a new technology come along and bury its head in the sand,” he said later. It behooved Fox, Roberts believed, to find out just how much demand existed for movies on videocassettes and whether there was some way to satisfy it without giving aid and comfort to the pirates. Maybe the way to beat them was to compete with them.

Just as Roberts was preparing to run an experiment, he encountered Andre Blay’s letter. “We were about to go into the business ourselves--to test the waters,” Roberts said. “We would use films that were already on commercial television, so I felt that we were risking very little, since anyone who wanted them could tape them off the air as it was. But now we were going to sell those films without the commercials, and unedited, because on commercial television they were edited to fit the time slots.” For a trial venture it seemed sensible to let somebody else invest the capital, and here was Blay, ready, willing and apparently able. Blay agreed to pay Fox an advance of $300,000, plus a minimum of $500,000 a year against a royalty of $7.50 on each cassette, none of them released more recently that 1973. Basing his choices on Variety’s estimates of box-office receipts, he selected “MASH,” “Patton,” “The French Connection,” “The King and I,” “Beneath the Planet of the Apes,” “The Sound of Music,” “Butch Cassidy and the Sundance Kid,” “Hello, Dolly!” and 42 others.

Blay’s company, Magnetic Video, already had a few machines to duplicate Beta and VHS cassettes. But the new venture was on a different scale. “Until then, 50 copies a week was a lot of copies,” Blay said. “There was no one in the world equipped to undertake this mission. So we had to build our own factory--a facility to make 20,000 cassettes a month. That was an unheard-of figure at the time, although now there are factories that make half a million or more.”

By October, Blay was ready to start selling, although not quite sure how. He began by placing ads in trade publications that catered to record stores. “Dealer inquiries invited,” the ads said. He also made a few tie-in deals with VCR manufacturers, allowing them to offer free or discounted cassettes to their customers. And with a $65,000 advertisement in TV Guide, he launched a direct-mail sales operation called the Video Club of America.

The TV Guide investment was a stunning success. From a potential pool of fewer than 200,000 VCR owners, 9,000 joined Blay’s club, and the $10 membership fees alone more than covered the cost of the advertisement. “The French Connection” and “MASH” turned out to be the most popular titles, but some customers weren’t that choosy. “I remember personally taking a phone call in those early days,” Blay recalled, “and the guy said, ‘I just read about the club and I want to join, but I don’t want to wait. Can you take my Mastercard number?’ It turned out that he was a veterinarian calling from his mobile telephone in North Carolina. Cassettes were selling for $50, and we had only 50 selections. He ordered the entire catalogue over the telephone.”

Fortuitously, the Fox titles went on sale just as VCR prices dropped below $1,000. As the number of VCRs grew, so did the demand for prerecorded cassettes. By March, 1978, Magnetic Video had sold 40,000 cassettes, most of them to “brown goods,” or appliance, retailers who paid a wholesale price of $37.50 each, but a healthy number to individuals who had joined the Video Club of America and paid $49.95 for each cassette. By the end of the year, Blay had sold a quarter of a million cassettes, and his production capacity was up to 30,000 a week, with the factory going 24 hours a day.

While Andre Blay was staging his fireworks show from a distance, George Atkinson was laying dynamite closer to home. Atkinson was another nobody, but he was a Hollywood nobody. A fast-talking, chain-smoking man of 40, he had been dabbling in various forms of portable movie exhibition, with unspectacular results, for more than a decade. When he read about 20th Century Fox’s deal with Magnetic Video, a switch tripped inside his head. At the time, he was running what he calls “a Mickey Mouse little business” out of a 600 square-foot storefront on Wilshire Boulevard in West Los Angeles. Called Home Theater Systems, the company supplied parties with super 8 movies; it wasn’t going well. On the personal level, too, Atkinson had been through the mill: a divorce and a period of hard drinking that culminated with his living in the back of the store, “saucing it pretty good,” as he said later. The Fox announcement brought him to life. If there were people--and Atkinson could testify that there were--who would pay $25 for the privilege of lugging a super 8 projector, a screen and an old movie home for the night, surely there were a lot more people who would pay a few dollars to rent a movie on a videocassette. Atkinson already had his store. To test out his theory, he put an advertisement in the Los Angeles Times: “Video for Rent,” it said, though in truth he had nothing to rent. Readers were invited to fill out a coupon and mail it in, “and in less than a week,” Atkinson said, “I had about a thousand coupons.”

Stimulated by this confirmation of his instincts and subsidized to the tune of $10,000 by an old high school buddy who saw a good investment, he arranged to buy one Beta and one VHS copy of all 50 Fox titles--not from Magnetic Video directly, because Atkinson couldn’t afford the $8,000 minimum order, but from a local brown-goods dealer who agreed to let him have them for $3 above wholesale. Then he took out another ad in The Times. It was only an inch high and a column wide, but according to Atkinson it had the telephone “lighting up like Christmas.”

Starved for capital, Atkinson established a club. He charged $50 for an annual membership and $100 for a life membership. A member was entitled to rent movies for $10 a day. Some of the first customers wanted to buy rather than rent. They were “your Cadillac and Mercedes crowd who would take 10, 15, 20 movies at a crack,” he said. Happy as he was to have their money, he didn’t have much hope for that side of the business over the long haul. “The studio executives said that Americans are not a renting public--not like the English, who rent television sets,” he said. “I said: ‘Well, movies may be the exception.’ I was looking forward to the day when VCR prices came down to match the pocketbook of the blue-collar guy, which would give us a whole new market. A lot of the studio people mistook it. They said: ‘Well, people buy records.’ I said: ‘You listen to Beethoven or the Beatles over and over again. You don’t watch Burt Reynolds over and over.’ ”

Atkinson was pretty much alone in his thinking. None of the brown-goods stores that carried the 20th Century Fox cassettes were renting them. In fact, they had contracts with Magnetic Video stipulating that the cassettes were to be sold for home use only. And from the stories Atkinson had read about Fox’s decision to enter the videocassette business, he had a suspicion that the studio’s executives wouldn’t like what he was doing if they knew about it. The possibility that he might even be violating the law crossed his mind, and he decided to make a few precautionary telephone calls--to the FBI and the Motion Picture Assn. of America, among other authorities. Was he or wasn’t he allowed to rent? Nobody could say for sure.

In January, 1978, Atkinson went to Las Vegas to attend the Consumer Electronics Show, looking to buy more cassettes. Although Magnetic Video was still the only company offering relatively recent Hollywood movies, a few independent operators were selling odd fare, mostly adult titles and old movies with copyrights that had lapsed or fallen into non-studio hands. Atkinson made connections with a few of these people. He also introduced himself to Andre Blay. “I posed the question to Andre, and he could give me no authority to rent,” Atkinson recalled. “He said: ‘You’d better talk to Steve Roberts.’ And Roberts’ response was: ‘Very interesting. What would you charge? Would you be willing to let the studio participate?’ I said: ‘Of course, I mean, I’d like your blessing.’ He said: ‘Write me a letter.’ I thought I was getting the green light.”

No such authorization came from Fox, but after a few months Atkinson received an unexpected visit from Robert Townsend, the author of “Up the Organization,” who had been retained by Fox as a consultant to study the videocassette market. “We went and had a Chinese lunch. It was all very chummy. He bought a couple of movies. And then I get a telephone call a few weeks later. He said: ‘Just a friendly tip--you’d better not rent. You’re going to be in a lot of trouble, George.’ And boy, I got scared. I had my life savings tied up, and here came this dire threat from a big man at a big studio.”

The time had come, Atkinson reluctantly concluded, to invest in some legal counsel. His lawyer researched the question and, by and by, told him, “ ‘You can’t copy it; you can’t publicly exhibit it--that’s a violation of copyright. But yes, you can rent it, you can eat it, you can destroy it. You bought it. It’s your property.’ ”

The idea of rental was, of course, in keeping with the Hollywood tradition of selling the right to see a movie rather than the movie itself. But with the phenomenal early success of the Fox experiment, studio executives’ heads began dancing with visions of vast video libraries in millions of American homes. If people would pay $50 or more to be able to take Bogart and Bacall, or Redford and Newman, or C3PO and R2D2 down off the shelf at will, what sense did it make to offer them a lower-priced alternative? It made very little sense to Roberts and his colleagues, especially since the law gave them no way to compel retailers to give the studio a piece of any rental action. Rental was an idea to study for the future, Roberts decided, and Blay agreed. For now, Fox and Magnetic Video would make their distributors and retailers sign a contract promising not to rent, and anyone who disobeyed would be cut off. It sounded foolproof. But as Atkinson discovered, there was nothing to stop him from “getting my stuff circuitously from another retailer or a friendly distributor who liked selling to me.” As a third party, he could not be bound by a contract between Fox and somebody else.

Almost from the day Atkinson opened his store, there were customers who looked around with suspicious intensity. Sometimes they couldn’t hold it in--the desire to know how they, too, could get into the videocassette business. In the spring of 1978, Atkinson helped one of them start a store in Pasadena. Then, satisfied that his setup was replicable, he decided to franchise it. He placed an ad in the business-opportunities column of the Wall Street Journal, and because Atkinson himself was busy dealing with his customers, he hired someone to handle the responses. His franchise salesman, Ray Fenster, was given the bathroom for an office. “Ray, I’m sorry, but this is the only space I’ve got,” Atkinson told him. A telephone was installed, and “he’d sit there on that damn toilet seat and pitch the deal over the phone. Then he’d fly them in to see us. We made it very easy. They bought the goods from us, and we charged them for licensing the territory. So there was a profit--like a 25% profit over our costs--but with that you got an education. You know, how do I print up a rental form? What kind of invoice do I use? If you had a certain amount of money--less than $10,000--we could get you started. And we were selling anywhere from eight to 10 stores a month from that toilet seat. Later, Ray started up a store of his own, and he became a competitor of mine with big offices in Beverly Hills, and cha, cha, cha! That’s what they say about imitation, right? It’s the sincerest form of flattery.”

Despite its failure to control Atkinson--and other retailers like him--20th Century Fox made a good deal of money from home video over the next few years, and, eyeing Fox’s success, the other studios, one by one, took the plunge. How could they face their stockholders, after all, if they ignored such a bountiful source of “found money”? But even as they began to profit from the new medium, it continued to make them uncomfortable.

One summer day in 1980, Frank Wells and Ted Ashley, then president and chairman, respectively, of Warner Bros., unloaded some of their concerns on Morton Fink, the president of Warner Home Video. As Fink recalled the meeting: “They said: ‘We’ve given you X-number of pictures, and you’ve paid us nice royalties. But. . . .’ ” It was a big “but.” Like Fox, Warner had expected people to buy its movies rather than rent them, and it had expected most of the sales to be through appliance stores, department stores or record stores--businesses where videocassettes would be a sideline. Instead, the studios had found themselves contending with the “video-software dealer,” a species of proprietor they had never contemplated, and the market had gradually shifted away from sales toward rentals. The typical cassette, at $79.95 retail, brought Warner Bros. a royalty of something like $10--a handsome return if multiplied by millions of individual purchasers, but a far less attractive one when multiplied by 10,000 to 15,000 video-store owners, each of them free to take a cassette that had cost, say, $50 wholesale, and rent it out 100 times or more at $5 a shot.

To Wells and Ashley and their colleagues, it seemed as though their share--the creative share--was a pittance contrasted with the money that was flowing to the retailers, the VCR manufacturers, and just about everybody else involved. “The studio,” Fink explained, “was saying, ‘Look, we’re not getting any part of the rental, and the retailers are buying two VHS and a Beta of each picture--and they’re probably duplicating a couple more in the back room, which is piracy from a legal point of view. ‘ “

The public, too, seemed to be getting a big return on a small investment. Already, a number of stores had lowered rental prices to $2. Even $1 rentals were not unheard of. As more people bought VCRs, home video was bound to become a more important element of the movie business--conceivably at the expense of the traditional movie theater--and the thought of masses of Americans paying a dollar or two (per group) to see movies that cost $10 million or $20 million to produce. . . . Well, it was more than any red-blooded studio boss could bear. Warner Bros., Fink was told, was “giving away its crown jewels.”

“Why can’t you license motion pictures to retailers just the way we license them to theaters?” Wells asked Fink. It was more than a friendly suggestion. The message, as Fink received it, was: “Unless you come up with a business system that allows us to participate in all the rentals that take place, you won’t get any more product.”

If a true pioneer of the movie business had been in the room--someone whose memory went back to the Edison and Biograph days--he might have told Ashley and Wells, just as a point of information, that history was repeating itself. In the early days of the century, he might have explained, the movie companies were in the habit of selling their movies outright--either to individual theaters or to local exchanges. Then they made a discovery: The theaters and exchanges were buying movies at flat rates, enhancing their earnings (in some cases) with bootleg products, and, what with one thing and another, becoming all too powerful. Edison and the other founding fathers of the business, our pioneer might have recalled, said many of the same things in 1908 that Wells and Ashley were saying in 1980. They, too, decided to end the practice of selling movies and to construct an elaborate licensing system designed to impose order and bring a rightful share of income back to them. After years of struggle, the industry had realized its goal, and now it seemed that a handful of young Hollywood executives had suddenly given away that hard-won achievement for a quick buck.

But there was nobody of that sort in the room. There was only Morton Fink, who, finding Wells’ and Ashley’s arguments reasonable, agreed to give their idea a try. The result--unveiled in the fall of 1981--was the Warner Home Video Rental Plan. The business, Fink said in announcing the plan, had experienced an “irreversible, dramatic, consistent trend toward rentals,” and Warner was going to go with the flow. Although it would be too difficult, administratively, to actually collect a percentage of each consumer rental, Warner would do the next best thing--it would lease instead of sell its cassettes to retailers, and the rates would start high and gradually decline as the consumer interest in a given movie declined. The Warner plan would benefit all parties, according to Fink, since retailers would now be able to stock more copies of the hot titles and thus generate more business. In any case, there would be no turning back. “We will no longer sell our product to anyone,” he declared.

In the fall of 1981, the nation’s video dealers were a disorganized lot. Most of them were unsophisticated people with little retail experience and neither the time nor the money to spend on fraternizing with their peers. But the Warner rental plan brought them to political life. George Atkinson, speaking on behalf of 300 of his affiliated stores throughout the western United States, called for a de facto boycott of the “Warner Rocky Horror Rental Show.” His stores could get by without Warner’s movies, Atkinson said, “so it’s not the end of the world.”

The boycott fever quickly spread, despite Warner’s frenzied efforts to modify the plan, and at the Consumer Electronics Show that winter, a group of angry video dealers threatened to rip apart the catalogues at the Warner Home Video booth. The pioneers of video retail had been through some hard years, when the scarcity of hardware and software had made their business a tenuous one. Now some of them were starting to pay themselves salaries, to take a little time off every once in a while, and maybe even work at a desk, executive-style, instead of chained to a cash register. No matter how much the studios insisted that they were only trying to improve the business for everybody, it appeared to the dealers as though Hollywood wanted a bigger share of the take. Atkinson expressed a widely held view when, referring to the studios’ home video revenues, he said: “This is all gravy money. They’re saying, ‘I’m not happy with the gravy. I want ice cream on my gravy.’ ”

By the summer of 1982 the Warner rental plan--and similar plans advanced by MGM and Fox--was history. Frustrated in the marketplace, the studios then turned to the government. With White House confidant Lyn Nofziger as a “door opener,” they won the Reagan Administration’s backing for a bill that would make the rental of a videocassette a transaction requiring the copyright owner’s approval. But in Washington, too, the video dealers were more than a match for the movie industry. The studios’ influence was largely confined to California. The video dealers were everywhere, and they were only too happy to communicate with their elected representatives--by letter, by Mailgram, by telephone and in person. When a Senate subcommittee threatened to approve the studios’ bill, the members of the subcommittee found full-page ads in their local papers that warned readers, “DO YOU WANT TO PAY MORE TO RENT MOVIES? IF NOT, CALL SENATOR -------- TODAY!” In the face of such opposition, they let the issue slide, and it soon slid right off the congressional calendar.

“The history of technology, perhaps more than any other kind of history, is full of premature obituaries,” observed Library of Congress historian Daniel Boorstin a few years ago. “We are prone, especially in this fast-moving country, to what I call the ‘displacive’ fallacy--to believe that every new technology displaces the old technology; that television will replace radio, that electronic news will displace print journalism, that the automobile will displace the human foot and that television will replace the book. But each of these new technologies has simply given a new role to the old technologies.”

The studios, to their great relief, have found that home video, like the discount fares offered by airlines, brings in new business, and that people who develop a fondness for watching movies on videocassettes do not, by and large, stop going to movie theaters. Some industry insiders go even further; they suggest that home video, by turning more people on to movies, has actually increased the potential audience for theaters as well. And in the first three months of 1987, movie theater revenues ran ahead of 1984--a year in which the theatrical side of the industry, for the first time, earned more than $4 billion. “It’s like getting hooked on chocolate,” said Mel Harris of Paramount. “The more you get, the more you want.” Through all of its struggles, the home video business has continued to grow, and the studios have learned in time to manage it more deftly. They now offer new movies at a relatively high price and then, after the rental demand has tailed off, to reissue them at a lower price, which is intended to spur consumer purchases. In this way, Hollywood has managed to achieve by marketing strategy much of what it had been after in its legislative quest. But the policy of owning every copy of a movie is gone, apparently forever--and most studio executives are too busy counting money to mourn.

The studios have also learned to accept a less privileged place in the movie-making scheme of things. Home video has shifted power outward from a small cluster of major movie companies to a vast constellation of minor ones. It has been a port of entry into the business for countless people who, in the pre-video age, would probably never have found a way in. Andre Blay, to name one, sold his interest in Magnetic Video to Fox in 1978 and parted from the new owners three years later to start his own video company. Then Embassy Communications bought him out, merging his company into a new entity known as Embassy Home Entertainment, and Blay moved to Los Angeles as its chairman--a job in which he found himself reading 10 scripts a week and doling out millions of dollars at a shot for the video rights to movies that, in many cases, might not have been made without his approval. (When Coca-Cola bought Embassy in 1985, Blay and a few of his fellow executives tried to buy Embassy Home Entertainment. The attempt failed, and Blay wound up leaving that company as well, only to start over once again as an independent home video producer.)

George Atkinson has moved from the retailing to the manufacturing end of the business, although his wife, Sandra, still runs a video store, Videotique, in Brentwood. His new company, World Video, offers a modest catalogue of movies, ranging from “The Little Princess,” with Shirley Temple, to the Soviet version of “War and Peace”--a two-cassette package encased in simulated leather to give it the look of a collector’s edition of the book. Atkinson calls his pictures “video vegetables.” (“Let the studios provide the steak--we’ve got the potatoes and the peas,” he says.)

Not every studio executive is satisfied with that division of the spoils. Although MCA is by now as deeply committed to home video as anyone in Hollywood, and though its home video division is one of the healthiest units of the company, Sidney Sheinberg still thinks the VCR has hurt his industry. “If you said to me, ‘hey, would you like to turn the clock back and undo it all?’ it wouldn’t take me a fraction of an instant to answer.” He pauses just longer than a fraction of an instant and adds, “but you can’t.”

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