Union of Imagine, DreamWorks Fails at Prenup Stage

It was supposed to be a legendary Hollywood marriage. The three amigos of DreamWorks SKG--Steven Spielberg, David Geffen and Jeffrey Katzenberg--spent months courting producer Brian Grazer and director Ron Howard with the hope of merging the pair’s Imagine Entertainment into their mini-studio.

Then on the eve of making a deal, negotiations suddenly collapsed last Friday when the Imagine partners got cold feet.

Sources said Grazer and Howard would have owned a substantial stake in the combined company but would not have been equal partners to the DreamWorks trio. They concluded that there is no guaranteed financial jackpot if or when the company is sold. Considering DreamWorks’ debt load, the future is uncertain.

“Unless there was going to be a mega-economic windfall that could justify them giving up their independence, it wasn’t worth it,” said a source close to the negotiations.

A merger made sense for DreamWorks. The fledgling studio needs to release more movies to justify its huge overhead, and Imagine is one of the most prolific producers in town.

And though Imagine’s television division is on a roll with such hits as “Sports Night,” DreamWorks’ “Freaks and Geeks” was just canceled. “Spin City” has been its only hit in five years.

Howard and Grazer had less to gain. They are among an elite group of powerful Hollywood producers, directors and stars who earn top fees, get a big cut of the profit on their films and have the clout to make whatever movies they want. And they do it at someone else’s financial risk, not their own, to boot.

“Ron and I chose not to do the DreamWorks deal because we weren’t ready to give up our independence,” Grazer said.

Independence means dollars. On a big hit film, the Imagine partners--guaranteed 5% of a film’s gross from the first dollar, with the percentage escalating as high as the mid-teens for mega-hits--can potentially earn more than $25 million.

The two have become very wealthy over the years with such hits as “The Nutty Professor,” “Liar Liar” and “Apollo 13.” The duo has made 42 films, which have earned a combined $3.3 billion worldwide at the box office, giving the producers one of the best track records in Hollywood.

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Although DreamWorks was guaranteeing Grazer and Howard a big check each year that was comparable to what they earned on an annualized basis, the promise of a meaningful financial upside when the company is eventually sold was elusive. The future value of the company “was too hard to quantify,” explained a source with knowledge of the deal.

DreamWorks partners believe their company is worth $2.5 billion to $3 billion, but a business executive pointed out, “there’s a lot of ambiguity to what DreamWorks is worth.”

Just 5 years old, DreamWorks has made only a limited number of movies and television shows. Unlike Paramount Pictures, Warner Bros. and other major studios, it does not have a tangible asset such as an extensive film library.

The privately held DreamWorks, whose largest investor and single largest shareholder is Paul Allen, also has about $1 billion of debt on its books. The DreamWorks partners each own about 20% of the company, Allen holds close to 30%, and other investors the remainder.

Principals and lawyers for DreamWorks and Imagine had been huddling for the last several months trying to figure out a way for the two companies to expand their business relationship beyond their partnership in Internet start-up Pop.com.

Katzenberg and Grazer have grown very close since launching and working on Pop.com last fall. Katzenberg, known for his persistence, was particularly aggressive in pushing for a merger.

Under the proposed merger, DreamWorks would have been the umbrella company for Imagine and other production labels. And, DreamWorks would have replaced Universal as Imagine’s longtime domestic theatrical distributor. (Universal is also DreamWorks’ worldwide home video and international theatrical distributor.)

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Originally, DreamWorks had proposed that Grazer oversee all of the merged company’s live-action movie and television operations. But Grazer, sources said, rejected the idea, fearing an internal power struggle. Instead, it was decided that Grazer and Howard would produce a certain number of movies for DreamWorks under their Imagine banner and Grazer would assist Katzenberg creatively in other business areas.

Grazer, a dedicated surfer, has flirted with offers throughout the years to become a major studio head. But ultimately, he favored his independence over being a corporate manager whose job might be sexy but temporary.

By their own admission, Grazer, 48, and Howard, 46, are not corporate business types, which they demonstrated during the seven years they ran Imagine as a public company. The company went public at $8 a share in 1986, and Howard and Grazer took it private in 1993 at $9 a share, infuriating investors and prompting shareholder suits that were later dropped. The two have been partners for 20 years.

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For the last seven years, the Imagine partners have enjoyed running a debt-free private company at no risk to themselves. Universal Pictures has financed and distributed most of Imagine’s movies.

Like any producer, Imagine has had its share of flops, most recently with “Edtv,” “Life” and “Sgt. Bilko.” Universal alone shoulders those losses, which added up to $60 million in the case of “Edtv.” Howard and Grazer still collect their lucrative fees.

Yet, when Imagine has a hit, everyone wins. The company has been Universal’s key supplier of hit films for more than a decade. Imagine and Universal have two anticipated blockbusters coming up in the sequel “The Nutty Professor II: The Klumps” with Eddie Murphy, opening July 28, and “The Grinch Who Stole Christmas,” a Nov. 17 release starring Jim Carrey.

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Sources close to Imagine say the partners are now anxious to renegotiate a new movie deal with Universal (Imagine TV just signed a new pact with Fox).

And every indication is that Universal management wants to keep Imagine in its fold. Although Universal considers Imagine a key relationship, the current deal unquestionably is more financially beneficial to the Imagine partners than to the studio.

Still, Grazer and Howard are exploring the idea of independent financing. Sources said Imagine executives and lawyers will meet Monday with a representative of a consortium of insurance companies interested in putting up $1 billion in production financing.

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Many in Hollywood believe a marriage between Imagine and DreamWorks was doomed from the start given the huge egos of the five potential partners. (DreamWorks SKGGH? Yuck!)

“At the end of the day, they didn’t want the perception to be that they were working for Jeffrey, Steven and David,” said a source close to Grazer and Howard.

“They are in the best business in the world,” the source added. “They are in that rare superstar category of people who have it all. Why give it up?”

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Imagine’s Clout

Ron Howard and Brian Grazer of Imagine Entertainment turned down an offer to join DreamWorks after discovering their own company was a better bet:

Total number of films made: 42

Total box-office gross:* $3.3 billion

Top Five Films

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Box-office gross Title (in millions)* Apollo 13 $344.0 Ransom 301.5 Liar Liar 297.5 The Nutty Professor 270.1 Backdraft 152.3

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*Worldwide

Source: Times research