Hollywood Goes InternetHollywood Goes Internet

Hollywood may not be steamrolling into the realm of digital distribution, but at least you can say this about the movie industry: It's in better shape, digitally speaking, than the music business. But then, that's not saying much. Two digital-distribution ventures set to debut early next year-the five-studio effort known as MovieFly and the Movies.com service being launched by the Walt Disney Co. and News Corp.-still lack much of the technology they need and have yet to unveil fully developed business models. Neither of the ventures even has an executive team in place to lead the digital initiatives.

That's still better than their music counterparts, which can't seem to get beyond debates about business models and digital rights (see story, "What The Movie Industry Can Learn From Napster"). To be fair, Hollywood has enjoyed a big advantage: It's had the luxury of time as the bandwidth needed to deliver feature films over the Internet has been slow to develop, making it difficult for a Napster-style outsider to force the issue. It's a luxury Hollywood has milked.

"All this stuff is like molasses-make that cold molasses," says Lee Black, an analyst at Webnoize, a digital-entertainment research firm. The reason? "The studios don't want to cannibalize their old channels with new ones." But as Black points out, studio executives also aren't about to close their eyes and hope that the Internet goes away. "They're not so stupid that they don't realize that new channels mean new revenue," he says.

Ah, revenue. Therein lies the rub. With all the discussion of the back-end technology hang-ups related to infrastructure needs and the fitful rollout of broadband, as well as the need to forge content deals, in the end, it boils down to the bottom line. That is, how can Hollywood make sure it pockets as many greenbacks as possible every time a movie is streamed, downloaded, shared, or copied from now until Kingdom Come?

Movie executives recognize that the Internet is a welcome new layer for their established practice of "windowing," or releasing products into the market in various stages to create multiple revenue opportunities. That marks a major departure from how they handled the advent of video rentals, which they viewed as a threat, only to watch the video-rental chains take a big piece of the profits.

Largely because of that painful history, the prevailing wisdom on digital distribution had been that the major studios are bent on cutting out Blockbuster Inc. and other video-distribution partners by developing their own digital channels. But with the Department of Justice beginning to look closely at MovieFly and Movies.com, it's apparent that antitrust considerations weigh heavily in developing online-entertainment business models. It's also grown increasingly likely that one or more third-party aggregators will forge licensing deals with the major studios to distribute the full breadth of their films online, something the studios can't do themselves without raising regulatory eyebrows. Possible aggregators include Yahoo Inc. and the video-rental companies.

Aron Campisano would love it if his company could be one of those aggregators. Campisano is CEO of Filmspeed, a Venice, Calif., developer of back-end technology, such as the Riptide peer-to-peer download accelerator, that powers digital movie-delivery services. Campisano and his staff of six are creating an independent online movie-delivery service that the major studios can tap into. Campisano hopes the service will increase Filmspeed's $1 million in annual revenue. So far, it's been the big video-rental chains that have shown interest in Filmspeed's service, but Campisano is betting the studios will quickly realize that creating a digital-delivery channel isn't just outside the realm of their core competency, it's also a legal minefield. "You can cut your own hair, but I'm guessing it's worth it to pay someone who knows how to cut hair," he says. "Left alone, the studios aren't going to do a good job."

Still, Hollywood's determined to try. In August, five of the seven major studios-Metro-Goldwyn-Mayer, Paramount Pictures, Sony Pictures Entertainment, Universal Studios, and Warner Bros.-unveiled plans for MovieFly, an Internet-based, on-demand movie service that will be renamed before its scheduled launch early next year.

Details of the service remain a mystery, and three months after it was unveiled, MovieFly still lacks executive leadership. This much is known: It will operate much like the video-rental model in the sense that customers will pay a small fee to access a movie for a fixed amount of time; it will be powered by RealNetworks Inc.'s RealSystem Media Commerce Suite; and it will be a download-only service to ensure the highest-quality video, even though Webnoize's Black contends that consumers prefer streaming video because of its simplicity.

Meanwhile, Disney and News Corp. (parent of 20th Century Fox) have chosen not to participate in MovieFly and have countered with plans for their own on-demand service. That offering, dubbed Movies.com, is also scheduled to launch early next year but also lacks executive leadership.

The studios have pointed to philosophical differences as the impetus for developing two camps. There's also a practical reality: If the seven studios had formed an all-inclusive digital joint venture, regulators would've been lining up at their doors like sci-fi fans the night before a Star Wars release.

However, there are notable strategic differences between the services. For instance, while MovieFly will launch as strictly an Internet operation, Movies.com will be peddled to digital cable-television providers. In the latter approach, cable customers would turn to a Movies.com channel, select video-on-demand from a menu on their TV screens, and choose the movies they wish to see. The service would offer customers VCR functionality such as pause, rewind, and fast forward. Salil Mehta, senior VP of strategic planning for Disney, says 99% of the broadband-equipped homes in the United States have high-speed lines only to their PCs, not to their televisions. For that reason, Disney and News Corp. aren't convinced of the Internet's near-term potential as a mainstream movie-distribution channel.

"We don't believe that the PC is where the vast majority of Americans want to access their movies," Mehta says. "We're building a service that can be distributed over any platform," offering consumers what Mehta sees as the biggest advantage of digital delivery: convenience.

Don Levy, VP of marketing for Sony Pictures Digital Entertainment, a division of Sony Pictures Entertainment, says the studios backing MovieFly are convinced that because 10 million U.S. homes have broadband connections, a sufficient market exists to justify introducing an Internet-only service. "The value is there," says Levy. He also notes that customers can move films from their PCs to their televisions by using a standard S-video cable, provided their PCs and televisions are S-video compatible, which most newer models are.

Mehta says another key distinction is that Movies.com will maintain a limited period of exclusivity with its content partners, ensuring that, at least temporarily, it will offer content that consumers can't find elsewhere.

One area in which Movies.com and MovieFly appear painfully similar is their technological progress, or lack of it. Delivering movies over the Internet-or any other channel that's based on the Internet protocol-is no easy feat. To do so effectively requires, among other things, back-end compression, conversion of analog assets into digital formats, software that can encode those assets and apply digital-rights management to protect against illegal copying, a high-speed delivery infrastructure, and then, on the consumer side, decompression, enforcement of digital rights, and media-playing software, as well as a broadband connection.

In that regard, MovieFly, which has chosen RealNetworks' back-end encoding, delivery, digital-rights management, and payment-processing technology, appears to be further along. Movies.com still hasn't chosen a technology partner, though the choice shouldn't be tough since there are really only two to choose from-RealNetworks and Microsoft, whose Windows Media Video technology has dominated the online-video market to date.

"We haven't fully developed what our strategy is with the technology companies," admits Mehta. But he makes clear that security issues, which are central to keeping all rights-holding parties happy once the services launch, are paramount to online-film delivery-a fact that appears to favor Microsoft, whose digital-rights technology is more mature than RealNetworks'. Security concerns are a significant reason that Movies.com will be delivered over closed cable-TV systems, where digital-rights management isn't as much of a concern. "If you're delivering over open systems like the Internet, digital-rights management is obviously the most complicated issue," Mehta says. "Before we deliver to the PC, we're going to be sure the content can't be hacked and re-sent."

Disney and Fox have tried to use their considerable lobbying power in Washington to ensure movie content is secure on future Internet-enabled devices. They've convinced Sen. Ernest Hollings, D-S.C., to propose legislation that would require consumer-electronics manufacturers to incorporate copy-protection technology into future products. The technology and consumer-electronics industries have, not surprisingly, voiced considerable opposition to that legislation, which has yet to be formally introduced.

Michael Katz, senior VP of the media and entertainment practice at consulting firm Booz, Allen & Hamilton, warns that delivering movies online probably won't ever be completely secure. Katz, who has worked with studios on strategic matters and technology initiatives, says that all the digital-rights management and encryption money can buy still isn't foolproof. "That's the nagging issue on people's minds," he says. "As smart as you think you're being, someone else will be that much smarter."

But that hasn't stopped the MovieFly studios from focusing on Internet delivery. Sony's Levy points out that as recently as two years ago, few thought the PC would become the primary device through which college students access music. Sony Pictures Digital Entertainment senior VP Patrick Kennedy says that the movie industry, much like it did with every technological advancement before the Internet, has greeted the Net with the five stages of mourning-anger, denial, bargaining, depression, and acceptance. "We're in acceptance now," says Kennedy. "We view this as a technology that enables us to reach consumers in new ways."

Still, bandwidth remains a formidable obstacle to Internet distribution. Katz says a recent industry report indicates that if 100,000 people simultaneously accessed a 30-minute video online, the traffic would chew up at least 5% of the Internet's bandwidth. "That would tend to argue that the infrastructure most definitely isn't there in terms of the broadband backbone," he says.

The irony of all this hand-wringing over whether the Internet is ready for movies is that there are companies that have been delivering online films for some time, with and without broadband. One of the first, SightSound Technologies, began offering downloadable feature films in 1999. The two best known, Intertainer and CinemaNow, are Microsoft-backed ventures that have taken different approaches. Intertainer has licensed content from major studios and relies on telecom and cable providers as the delivery channel. CinemaNow delivers independent films directly from its Web site. Both use Microsoft Windows Media Video technology.

Intertainer stormed onto the scene this year with a series of high-profile launches. Last spring, it introduced movies-on-demand over digital subscriber line to 40,000 customers of Broadwing Inc. in Cincinnati, as well as on a smaller scale in six cities served by Qwest Communications International Inc., another of its investors. Last month, Intertainer expanded its DSL service to the 35 largest U.S. markets, using Broadwing's growing high-speed network for long-haul delivery and Akamai Technologies Inc.'s content-delivery network to control access to users in those markets and thus limit demand on its servers.

"This is an opportunity for us to take an early lead on building a brand," says Intertainer president and chief operating officer Stephen Ste. Marie. "It's the first time the promise of true video-on-demand is being delivered."

Not wanting to put all its eggs in the Internet basket, Intertainer is also establishing itself in the cable-TV market, delivering its service to 750,000 Comcast Corp. cable subscribers in New Jersey and Pennsylvania, as well as to Adelphia Communications Corp. customers in Cleveland.

CinemaNow is probably the best-known destination site for viewing films online. CEO Curt Marvis says the site attracts 1 million visitors a month, and that it converts 1% of those visits into transactions, a conversion rate that Booz, Allen & Hamilton's Katz terms relatively strong.

Even though the 1,000 feature films in its library are lesser-known independent titles, CinemaNow serves as a sort of business-model case study for the big studios. Visitors can access films in one of three ways: They can view advertising-supported films free; they can choose a pay-per-view transaction in which $2 or $3 gets them 48-hour viewing rights to a film; or they can pay $10 a month for an all-you-can-watch subscription.

Marvis says the site has 1,000 subscribers and delivers 10,000 pay-per-view films each month. About 20% of CinemaNow's customers access films via dial-up connections. Marvis expects the company to be profitable in early 2003.

Marvis isn't kidding himself about the impact an independent film site can have. "CinemaNow isn't the site that's going to single-handedly convince people to pay for content on the Net," he says. Experts agree, saying the site that accomplishes that feat will offer the widest range of content available. Webnoize's Black says Intertainer has an advantage over other early entrants because of the extensive content deals it has with the likes of DreamWorks SKG, New Line Cinema, Universal, and Warner Bros., all of which make a rotation of mainstream films available to the service.

But Katz says merely adding another window through which to shovel mainstream content won't be enough in the end. Rather, he says, it will take unique content such as original Internet-only movies and pre-video store releases to attract the audience the major studios want. Once that happens, technology won't stand in the way.

"In the end, the technology will work itself out. The important thing is what's going to be the hook that gets people to dip their feet in," he says. "Just using the Internet as another way to distribute the same mass-market product doesn't recognize the value of this new channel." It seems Hollywood has a lot of work to do before its digital debut.