Trouble in Tunetown : Hollywood Records Remains Hitless

In the decade since Michael D. Eisner took the helm, Walt Disney Co. has been a looky-loo on many deals, passing up opportunities to invest in established record companies, networks--even Mattel, the toy company.

Instead of buying, Disney frequently has launched new ventures from scratch. Two of the most notable attempts have been in recorded music and publishing. After six years, Hollywood Records can’t take credit for a single hit. But the Hyperion adult book publishing unit has turned profitable this year, thanks to tie-ins with Disney talent. Its best-selling book was penned by Tim Allen, star of Disney’s “Home Improvement” TV series and its “The Santa Clause” movie blockbuster.

Still, Disney has moved so cautiously that its publishing and recorded music units remain a minuscule blip on the radar screen of a company that posted more than $10 billion in 1994 revenue.

Is Eisner cheap, or is he wise?

On Wall Street, the Disney chairman has both critics and defenders.

John Tinker, an analyst at Furman Selz in New York, says: “I think it’s terrific to hear management not wanting to throw around shareholders’ money. I wish more managements were like that.”

But others fear that Disney may hobble its long-term growth if the company lacks the gumption to take bigger risks. Some analysts question whether internal growth alone can sustain Disney’s goal of 20% compound annual earnings growth and 20% annual return on stockholders’ equity.

Disney is a “non-entrepreneurial, non-risk-taking company past the point, I believe, of logic,” says Emanuel Gerard at Gerard Klauer Mattison & Co. in New York.

But Eisner insists on going slowly; his rule is “to crawl before we walk and walk until we learn to run.” He doesn’t rule out acquisitions, once Disney has grown more comfortable with its new businesses.

Here are the tales of two Disney start-ups.

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Michael D. Eisner hoped he was being cheap and wise when he launched Hollywood Records in 1989. As he explained in an annual letter to shareholders that year, Disney chose not to participate in the “ ‘shark frenzy’ to acquire a record company” because “those available seemed not only overpriced but unmanageable for us.”

Six years later, the division--tucked away on the Disney lot in a building overshadowed by sculptures of the Seven Dwarfs--is routinely derided by critics who wonder whether Disney has the stomach to create a rock label. Not one of Hollywood Records’ three dozen new acts has scored a hit. Last year, Disney removed the label’s president, Peter Paterno, and slashed its staff and artist roster.

But Eisner scoffs at speculation that he’s ready to throw in the towel.

“It’s true that we have not lit the world on fire or impressed our competitors, but I don’t buy this concept that Hollywood Records is a failure,” Eisner said. “Do I wish we had six great acts and had developed a company that you would be writing glowing stories about? Of course I do. But we’re not finished yet.”

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Disney has had great success in music--in connection with its films. Under the Walt Disney Music label, “Lion King” was the best-selling album of 1994.

So far, though, the only music that Hollywood Records has been able to make money on was recorded in the ‘70s and early ‘80s by the glam rock group Queen. Hollywood cashed in on a Queen resurgence after lead singer Freddie Mercury died and one of the band’s songs was prominently featured in the 1992 hit film “Wayne’s World.”

The Queen catalogue--for which the label paid about $10 million in distribution rights--has generated an estimated $94 million in U.S. revenue since 1991.

But most other acts signed to Hollywood have bombed. And the label passed up early opportunities to sign such acts as Nirvana, Smashing Pumpkins, Naughty By Nature, Cypress Hill and Dr. Dre--each of which went on to become commercial blockbusters for other companies.

According to informed sources, these and other missteps have cost Hollywood Records more than $70 million in total losses.

Eisner dismisses that figure as “ridiculous,” insisting that Hollywood has suffered a “minuscule” $10 million in cumulative losses. The record operation, he says, has cost Disney less than one film box-office flop.

“It’s tough to build a record company from the ground up,” says Paul Marsh, vice president of media entertainment at NatWest Securities. “So far, Hollywood Records has been more like an R&D; venture that hasn’t yet reached fruition.”

Disney isn’t the only outsider to underestimate the difficulty of breaking into the music business. Of the dozen or so new labels started in the ‘90s at a total investment of about $250 million, few have turned a profit. Indeed, several already have folded.

Because start-up labels have no existing catalogue to generate revenue, it’s essential for them to discover new talent. Recent start-ups have quickly established sizzling reputations by transforming unknown artists into superstars whose records sell multimillions of copies: Interscope signed Dr. Dre, La Face discovered Toni Braxton and Epitaph has Offspring.

Interscope founders Ted Field and Jimmy Iovine, whose cutting-edge roster generated more than $100 million in domestic revenue in 1994, have entertained offers to sell their company for a reported $400 million. Competitors also have tried to raid or buy La Face and Epitaph.

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Why has Hollywood Records struggled?

Of the dozen Hollywood Records-affiliated executives, managers and attorneys interviewed for this story, most believe that the label’s biggest obstacle may be Disney itself--or at least the parent company’s conservative image as a bastion for wholesome family entertainment.

“The No. 1 rule at Disney is that you don’t mess with the Mouse,” says one former Hollywood executive, who maintains that the firm shies away from controversial artists that could pose public relations problems.

Insiders also blame former label chief Paterno, a prominent entertainment attorney who came to the label with no previous executive experience after representing such superstars as Guns N’ Roses and Metallica.

Paterno signed 30 bands that flopped, launched a failed satellite office in London and sank millions of dollars into exclusive artist and repertoire pacts that never showed a profit.

Early on, Paterno came under criticism from then-Walt Disney Studios Chairman Jeffrey Katzenberg, other Disney division heads for heavy spending. Hollywood Records’ payroll eventually rose to 85 employees.

In an interview with The Times, the deposed executive acknowledged that his tenure was less than stellar.

“If the image of a record company is shaped by how many hit artists it has on its roster, then I guess we stunk,” Paterno says. “I was new at the job and I made mistakes, but given what I was up against, I don’t think I was such a bad manager. Still, I do accept complete responsibility for what went wrong.”

Even Paterno’s harshest critics, however, don’t believe he deserves all the blame. Competitors and former employees say Eisner should not have allowed an inexperienced executive such free reign.

“I believed in Peter,” Eisner responds. “And besides, there is no way I could ever pull the string on a guy’s contract or force him to quit simply because of an early failure. That would send a very bad signal to the rest of the company. If you don’t allow your executives to fail, then nobody will ever take a risk.”

Eisner promoted Bob Pfiefer, a relatively unknown artist and repertoire executive, to run the label in February, 1994. Since then, the label has kept a remarkably low profile. The flow of product virtually stopped after Eisner downsized the label last summer, purging dozens of employees and artists.

The lean new Hollywood regime, which recently negotiated an international distribution pact with PolyGram, expects to deliver albums by recently signed artists such as Seaweed, Gwen Mars and Into Another.

However, some competitors already are snickering about Pfiefer’s decision to buy out the contract of artist manager Rob Kahane, whose $5-million distribution pact was deemed unprofitable. After Disney paid Kahane $1 million to leave, he resurfaced immediately at Interscope, where his British act Bush went on to score a top-five hit on the alternative singles chart.

Pfiefer, 39, has no illusions about the challenge he faces in carving out a credible identity for Disney in the rock field.

“I know we’ve got a lot of baggage to deal with here, but I’m optimistic about the future,” he says. “I’m building this company around the idea that if we make great art, great commerce will follow.”

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Eisner says he remains committed to helping Pfiefer turn Hollywood into the industry’s next premier boutique label.

“When we started, people said we didn’t know anything about the record business, and they may have been right,” Eisner acknowledges. “But we will persevere, and eventually we will actually put out a record that somebody buys.”

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Ones That Got Away

Disney’s Hollywood Records has had a rough time since its 1989 launch. Not one of the rock label’s acts has scored a hit. At the same time, the company has missed opportunities to sign acts that went on to become commercial blockbusters at other companies. Among the multimillion sellers that Hollywood Records chose not to sign:

Kurt Cobains’s Nirvana, Cypress Hill, and Dr. Dre.

And. . .Smashing Pumpkins, Naughty By Nature