The New Studio

I have a bet with a colleague. It's a very serious bet with the highest possible stakes (No, silly, not our immortal souls. A bottle of good Scotch).

My colleague thinks that either movies or music will still be sold with Digital Rights Management in 2012. I, on the other hand, know DRM will be long gone by then. It should be gone now, because it doesn't work. But that's not why it will be gone. It will be gone because it's bad for business.

DRM is bad for business for lots of reasons, but the most important reason is very, very simple.

All products generate sales by exposing people to the product. People who are exposed to the product and don't like it aren't potential customers; they'll never pay. The people who like the product after they're exposed to it are potential customers; they're the addressable opportunity - the "fan base". The people who like the product and decide to buy it are the paying customers. The trick in business is to maximize the number of paying customers.

The first step in the DRM business model is this:

1. Shrink the fan base by making it impossible for potential fans to try the product.

Any business model that starts this way will be destroyed by a business model that increases the size of the fan base.

The music industry has figured this out, and DRM for music is already dead. Every major label now sells DRM-free music, and Radiohead has proved pretty conclusively that people will pay good money, voluntarily, if you put good music up on the Web with no restrictions. Not only that, they'll pay a premium for limited-edition collector's sets, and they'll still buy shipping containers full of your CDs - and your brand new vinyl LPs.

It's amazing that it took Steve Jobs to teach the music business that DRM was a bad bet; after all, record label executives are the same people who used to bribe DJs to give music away free on the radio. But two cheers to the labels anyway; freeing music will result in more music and better music; it may even allow artists to keep some of the money they are currently turning over to agents, managers, and label executives. (well, ok, probably not. But we can always hope.)

Hollywood is lagging behind the music business; Hollywood still hasn't admitted that the DRM business model is a guaranteed loser. There's a reason Hollywood hasn't admitted this: the stakes are too high. As Upton Sinclair famously put it, "It is difficult to get a man to understand something when his salary depends on his not understanding it".

Hollywood isn't run by people who watch movies or who make movies. It's run by people who fund movies. The purpose of a modern movie studio is not to make movies. It's to make money. A lot of money. Not for directors or actors or writers (especially not for writers!), but for studio executives and producers. Whether the movies are good is a minor concern. The major concern is whether the revenues are good.

At this point I want to make it clear that I am a capitalist, and I'm completely behind the idea of businesses making a profit. The problem I have with the Hollywood studios is that their business model is increasingly driving them to try to make more money by making the product worse. This is bad for the audience, of course, because it means we have to watch a lot of awful movies. But in the long run it's also bad for the studios, because it means that someone is going to come along and put them out of business by making a better product for less money (Clayton Christensen explained how this phenomenon kills successful companies in his book "The Innovator's Dilemma". If you're a studio executive, read the book. Now, before it's too late. If you're too busy to read the book, you can just read the Wikipedia entry.)

Movies are hugely expensive today. Paying movie stars is very expensive; exotic locations are very expensive; special effects are very expensive; unionized crew and soundstages are very expensive; and distribution and advertising are insanely expensive. If you believe Wikipedia, the average cost to produce a Hollywood feature is now about $50 million; the cost of advertising and distribution drives the total to $100 millon.

This is a big problem for the studios. If you're spending $100 million, you can't afford a failure. You've got to make the $100 mil back just to break even.

You might think people who are putting $100 million into a movie and who can't afford a failure would make damn sure the movie was great.

You'd be wrong.

You can't make a great enough movie to guarantee $100 million dollars in ticket sales; almost no stories are that good, and almost no movies are that good. Even movies which are that good won't necessarily make $100 million - maybe they'll just win a lot of Oscars and change the way a generation thinks about the world - and leave you famous and $80 million in debt.

Studio executives are smart businesspeople. They know they can't make a good enough movie to earn a profit on a $100 investment. So instead do the only thing they can. They make movies which will sell more than $100 million worth of tickets even if they suck.

They do this by appealing to their audience the same way the Roman emperors appealed to their audience: bread and circuses. Brad Pitt all oiled up in leather armor? You got it. Bruce Willis crashing a car into a helicopter? No problem. Halle Berry giving a blowjob? Absolutely. You want the good guys to win? We can do that. Want the guy to get the girl? Why the hell not?

This stuff is mesmerizing in the previews. But once the audience gets into the theater, the game's up. The audience figures out very quickly that they've been tricked. The story makes no sense. The special effects are just a gimmick to distract us from the boredom of the action. The sex isn't as good as what we can get free on the Internet. The characters are two-dimensional robots; we hope in vain that they'll die.

By the time the audience is in the theater, though, it's too late - the studio has won. All the studio needs is four days. Opening weekend. The studio makes its money before the audience realizes the movie sucks, and before they can tell their friends. The chumps who wander into the theater a week later, or watch the movie in foreign markets, or buy the DVD, are gravy.

Theater owners and distributors love this. Zillion-dollar blockbusters with lots of sex and blood and explosions and huge advertising budgets keep the seats filled, and the money keeps pouring in.

The dark side of all this, of course, is that there are no theater seats left for good movies - especially good movies with small advertising budgets. Even if you save your pennies and make a very good movie for $1 million, you still have to pay $40 million in advertising and distribution to compete with the people who make bad $100 million movies.

Actors and directors know this, and they do things to try to sneak the occasional good film into the theaters. George Clooney makes movies that suck (Ocean's Twelve) to earn enough money to advertise movies that don't (Good Night and Good Luck). Robert Redford runs a festival whose whole purpose is to convince distributors that good movies have a big enough audience to fill a few of their valuable seats for a week or two.

All this explains why DRM makes sense to movie studios; the single most important thing a studio has to do is to make sure nobody sees the movie before opening weekend. Because if anybody sees it early and starts telling people it's no good, the whole house of cards collapses, and everybody loses giant piles of cash. If DRM can allow studios to send the movie to reviewers and Oscar voters without taking a chance that a copy will get loose and screw up the release - well, bring it on! If it can protect dailies and rough cuts and test screening copies from escaping into the wild - hallelujah! This is the most important reason studios use DRM; preventing DVD piracy is nice, but a tax on recordable DVDs would do that job just as well, and a tax on DVD drives or computers would solve any problem the studios might have with P2P sharing.

The elephant in the room is this: Seats don't watch movies. Peoples' eyes do. And movie fans can use their eyes even if they're not in a scarce and expensive movie seat.

If you can make a good movie really cheap, the Internet will let you distribute it free to many more people than you could ever get into all the movie theaters in the world for a weekend. And if you can make a good movie really cheap, you don't need to get paid very much to make a profit.

This means you can take a chance the Hollywood studios can't take. If you can make a movie really cheap, and distribute it for free, you can afford a flop. If people don't like the movie, you're out a few bucks but you don't have to sell ten thousand pounds of crystal meth to pay your creditors. But if people really love it, you can make a lot of money. And you can make money lots of ways - you can charge for downloads, you can charge for DVDs, you can charge for posters, you can charge for action figures. You can even charge distributors to show your movie in a real theater, because you've already proved that there's an audience.

Wanna know a secret?

You can make a good movie really cheap.

Just ask Robert Rodriguez. (And he did it back when it was still pretty hard; you're much better off. You can buy your own HD camcorder for less than $1,000. Not chicken feed, but not close to $100 million. You'll need a good script and good actors, of course, but hey - nobody promised you a rose garden.)

The Hollywood studios know this.

It frightens them.

It should.

Someone's going to come along and create a New Studio. It's going to have a new business model that lets creative people make a decent living making good, cheap movies. It's going to trust its audience to pay for quality films. It's going to grow its fan base by distributing entire movies on the Internet with no DRM, just as Radiohead distributed music on the Internet with no DRM. And if the old Hollywood studios try to compete against it with DRM-encumbered movies that shrink their fan base while the New Studio grows its fan base, the Hollywood studios are going to die.

Mike Masnick at Techdirt has already explained the theory of how to make money selling free goods. I won't try to summarize Mike's Grand Unified Theory of the Economics of Free because I want you to read the real thing. But I do want to agree publicly with what I think is his most important point:

"Saying you can't compete with free is the same as saying you can't compete period."

I'm going to try to apply Mike's theory to the movie industry by posting a business plan for the New Studio. I'll do it in chapters. I hope you like it. I hope you use it. I'm waiting to see your movies.

Maybe you don't believe it can be done; fair enough. But if you don't think you can compete and make money by selling people things they could get for free, I want to ask you one question.

When was the last time you bought a bottle of water?

What rough beast, its hour come round at last.... ?

Online retailer Life is good has entered into a consent decree with the US Federal Trade Commission to settle claims that its assurances of privacy protection to consumers were false. Davis, Wright, Tremaine LLP's excellent Privacy and Security Law blog has coverage of the decree here.

Corporate counsel and Chief Information Security Officers need to pay very close attention to this decree; it lays the groundwork for a standard of due care in the protection of consumers' private information. In my opinion this is, to use Churchill's famous phrase, "the end of the beginning" for information security and privacy as a liability-free zone.

Bruce Schneier, who has just been selected to receive CPSR's Norbert Wiener award, has long advocated liability as a step toward better computer security.

Whether you agree with Bruce or disagree with him, the FTC's action means that you now must acknowledge, and start to plan for, the possibility of liability for your security failures. You must also begin to prepare for the imposition of legally mandated minimum standards on your security programs, at least if those programs protect private information.

As Ronald London, who posted the Privacy and Security Law blog's entry on the Life is good consent decree, so mildly puts it, "The FTC's announcement of the consent decree provides an opportunity for all companies that collect sensitive personal information, and that publicly make promises about how they safeguard that data, to re-evaluate their data security programs".

A word, to the wise, is sufficient.