Disney Memo Enrages Record Industry : Entertainment: The head of the firm’s money-losing recording firm criticizes rivals and derides some stars.

In a startling eight-page memo that circulated Tuesday through a slumping record industry, the embattled chief of Walt Disney Co.’s Hollywood Records label defended his management of the fledgling company and lambasted his competitors in caustic language.

The 2-year-old unit--whose biggest act, Queen, lost lead singer Freddie Mercury to AIDS on Sunday--has been widely criticized for its anemic sales performance.

But in the Oct. 31 memo to Disney Chairman Michael D. Eisner and President Frank G. Wells, Hollywood Records President Peter Paterno said he would disprove skeptics who say Disney is presiding over “the Titanic captained by the Three Stooges.”

The executive blamed Hollywood’s problems on unexpected competition from other start-up companies and the industry’s economic slump. Paterno, who inexplicably refers to Eisner as “Mr. Natural” at one point in the memo, said the company’s long-term prospects are good--though he says that Hollywood Records will lose $25 million this year.

While the anticipated loss did not surprise financial analysts who have followed the company’s performance, many in the recording industry were taken aback at Paterno’s unvarnished criticism of some of his fellow record executives.

Paterno likened Capitol-EMI Music Inc. Chairman Joe Smith’s tenure to a “financial Waterloo.” He accused Geffen Records of overpaying for some acts and predicted that Giant Records, started by Irving Azoff, will “lose more money this year than we will.”

The memo derides rap star Vanilla Ice as a “fluke.” Paterno said he doesn’t “like” some other big-name artists signed to competing labels. “I know Whitney Houston, Michael Bolton and Mariah Carey are the kinds of artists that the Walt Disney Co. would love to have,” Paterno wrote. “But they’re part of the business with which I’m just not comfortable.”

The Paterno memo even makes reference to criticism of Hollywood Records’ three biggest acts.

“There are, at best, three people on our label about whom people you know may have an opinion--(jazz pianist) Patrice Rushen, Liza Minnelli and Queen,” Paterno wrote to Eisner and Wells. “And most of these people will tell you that these artists are losers.”

Paterno, however, argued that their salaries of $3 million per album will be justified if one of them has a hit. “If Patrice Rushen makes the right record and it sells, all of a sudden we’re all geniuses,” Paterno wrote. “If she doesn’t, she’s a loser and so are we.”

Paterno, who formerly worked as an attorney representing acts such as Guns N’ Roses and Jackson Browne, acknowledged that he was not blameless in the label’s weak performance.

“In starting Hollywood Records, I’ve made a lot of mistakes,” Paterno wrote. “Some have been financial, some have been stylistic and some have been just plain dumb. . . . (But) from a strategic standpoint, I believe we are on the right track. . . . Prosperity, while not right around the corner, certainly seems to be an achievable goal.”

Paterno and other Disney executives declined to comment on the memo but did not deny its legitimacy.

This marks the second time this year that an internal Disney memo has surfaced amid controversy. In January, the film industry was launched into self-examination by Walt Disney Studios Chairman Jeffrey Katzenberg’s lengthy manifesto criticizing profligate spending.

On Tuesday, Paterno’s memo provoked strong reactions in record industry circles.

Capitol’s Smith said he was “enraged.”

“This guy is so off-base in his reading of how a record company works,” he said. “Not only is he extremely naive, but his numbers are staggeringly wrong. It’s obvious that he thought he might be able to get himself off the hook with Disney by misrepresenting Capitol’s profit figures. . . . Thorn EMI is a very profitable company. The guy doesn’t have clue.”

David Geffen, chairman and chief executive of Geffen and DGC Records, said he thought that the memo indicated Paterno’s “lack of understanding” of the record business.

“I don’t think that anyone can learn the record business in a minute or a year, and Peter Paterno certainly has not,” Geffen said. “I’m sure that if Disney is willing to withstand the kind of losses they talk about in this memo, Peter Paterno eventually will learn it. But it will be one of the more expensive lessons in the history of the record business.”

Azoff blasted Paterno’s negative analysis of his company’s track record. “If Paterno thinks that Hollywood Records’ financial condition is anywhere close to Giant’s, he’s brain-dead,” Azoff said. “We were profitable in our first year of operation.”

Paterno, who has been widely criticized for signing aging acts such as Queen and lesser known groups that have generated poor sales, was said to have feared for his job at the time he wrote the memo. Some in the industry said Tuesday that the publicizing of the memo could put Paterno’s job in jeopardy.

In the memo, he calls the record industry a “horrifically competitive business.” There is even a reference to the possibility that Disney would bring in new management or leave the business altogether.

Paterno explains his approach to signing acts--Hollywood has 30--by saying he looks for artists with “good songs and an attitude.” He goes on to say: “The central concept is that I try to avoid blandness at all costs.” Paterno writes that Hollywood also looks to sign acts in the $100,000 range and that he is devoted to making “cheap” records.

Disney started Hollywood Records in 1989 in an effort to capture some of the pop music market. The entertainment industry has since fallen into one of its deepest downturns in years. Once a darling of Wall Street, Disney reported a 23% drop in profits for fiscal 1991.

Hollywood has been one of the drains on corporate earnings. In the memo, Paterno reveals that Hollywood could lose $33 million in 1992 under a worst-case scenario.

The memo indicates that Wells has set a ceiling of $20 million on losses; it is unclear whether the ceiling applies to 1991 or 1992. Paterno writes that he has no objection to a “financial box, as long as the financial box is realistic.”

Jeffrey Logsdon, an entertainment analyst with Seidler Amdec Securities in Los Angeles, said Disney has to be patient if it expects Hollywood Records to succeed, since the company has decided against engaging in bidding wars for established superstars.

“In music, it’s either free agents or it’s the farm system, and Disney clearly is taking the farm system route,” Logsdon said. “If they had any illusions that they would be cranking in big profits at the end of the year, then somebody didn’t do the correct analysis.”