25th February 2012: Mailroom Jobs & Superstar Economics

The Operator: David Geffen Builds, Buys and Sells the New Hollywood (2000)

 

For the past week I’ve been writing about academic entrepreneurs and superstar economics. Now, NPR’s Adam Davidson has a great New York Times article on why many careers are becoming lotteries in which a small group has a ‘winner-takes-all’ or ‘success to the successful‘ dynamic and others can miss out. Davidson’s key insight:

 

Hollywood is, in some ways, the model lottery industry. For most companies in the business, it doesn’t make economic sense to, as Google does, put promising young applicants through a series of tests and then hire only the small number who pass. Instead, it’s cheaper for talent agencies and studios to hire a lot of young workers and run them through a few years of low-paying drudgery. (Actors are another story altogether. Many never get steady jobs in the first place.) This occupational centrifuge allows workers to effectively sort themselves out based on skill and drive. Over time, some will lose their commitment; others will realize that they don’t have the right talent set; others will find that they’re better at something else. [emphasis added]

 

Davidson’s thesis is that this “economic lottery system” pushes talent to the top. He cites Hollywood actors and directors, and Big Four accountants who survive the ‘up or out’ system to make partner (William D. Cohan has interviewed the Wall Street losers). Davidson connects tournament theory — the study of individuals who have relative advantages in salary and wage negotiations — to disruptive innovation (PDF), globalisation, technology and other mega-trends that are creating a ‘race to the bottom’ dynamic. How can individuals cope with these changes? “In a lottery-based economy, you need some luck, too; now, perhaps, more than ever,” Davidson advises. “People should be prepared to enter a few different lotteries, because the new Plan B is just going to be another long shot in a different field.”

 

For Davidson the “economic lottery system” model is the New Hollywood. The reality is a little more complex. Classical Hollywood’s studio production system flourished from the 1930s until the ‘go go’ Sixties when the modern conglomerates collapsed. For a brief period from 1968-73, independent producers flourished before the studios fought back with the blockbuster film, new marketing, distribution, and control of ancillary revenue streams. A similar pattern occurred in the 1995-2000 dotcom period (PDF) in Los Angeles, New York, Austin, and London. Ben Eltham and I found in a 2010 academic paper that Australia’s film industry fluctuated depending on a mixture of Australian Government intervention, available labour, and international tax arbitrage. Eltham and I both read Nikki Finke’s influential blog Deadline Hollywood.

 

History also differs on the New Hollywood exemplars that Davidson selects. “Barry Diller and David Geffen each started his career in the William Morris mailroom,” Davidson observes. Tom King’s biography The Operator: David Geffen Builds, Buys, and Sells the New Hollywood (New York: Random House, 2000) details what actually happened over this six month period in late 1964-early 1965 before Geffen became secretary to television agent Ben Griefer (pp. 46-52). Geffen lied to WM’s Howard Portnoy that he was Phil Spector’s cousin. Geffen lied about having a college education and persuaded his brother Mitchell to write a letter and cover this up. When they met, Diller “thought Geffen was a rather odd duck for using his vacation time to work in the company’s other office” (p. 50). Geffen networked with agent Herb Gart, “stalked” New York office head Nat Lefkowitz, and got his break from Scott Shukat. Geffen relied on chutzpah, hard work, networking, and having a career goal: “signing actors.” No wonder that Geffen hated King’s biography.

 

These qualities are essential to Davidson’s “occupational centrifuge.” When academics ask me about their Dean’s budget and resource allocative controls, and why universities are now like Davidson’s “economic lottery system”, I suggest they invest time in watching the film Moneyball (a film in part about tournament theory), and understanding the performance and value creation goals of private equity firms (the mental model of consultants who possibly advise the Dean).

 

I haven’t finished the academic journal articles on those ideas yet . . .

DreamWorks’ Debt Finance Battle

Hollywood recently honoured Steven Spielberg with a two-hour retrospective on his 40-year career as a film director and producer. FT‘s Matthew Garrahan reports however that the celebrations may be shortlived: Spielberg cannot raise debt capital for his independent film company DreamWorks after talks failed with HBO and NBC Universal.

DreamWorks has endured a difficult 14-year history. Spielberg co-founded the film studio as DreamWorks SKG in 1994 with music mogul David Geffen and Jeffrey Katzenberg who had just left Disney after a high-profile battle with Michael Eisner. Spielberg envisioned DreamWorks SKG as a 21st century successor to United Artists whilst Geffen and Katzenberg wanted their independence from the Hollywood establishment. However since 2004 the trio have rolled back their original vision and relied instead on the divestiture of the DreamWorks Animation division and distribution deals. They sold the studio to Viacom in 2005 partly because Geffen wanted an exit strategy from a daily operations role. Spielberg announced a $US1.5bn deal for independent films in September 2008 with India’s Reliance ADA Group which specialised in Bollywood films. The announcement was a world is flat moment worthy of Thomas Friedman: would India invade Hollywood as Japan’s Sony had done with its acquisitions of CBS Records (1987) and Columbia Pictures Entertainment (1989)? But as Garrahan notes, Reliance ADA Group’s funding of Spielberg’s independent vision was contingent on debt finance and distribution deals from other funding sources, which have now ended the negotiations.

There are several reasons for this outcome apart from the global financial crisis. Just before he announced the Reliance ADA Group deal industry analysts suggested that Spielberg had priced himself out of the United States market. Jeffrey Katzenberg’s attention is elsewhere: a charm offensive to raise the investor profile of DreamWorks Animation and its 3D releases. NBC Universal, HBO and other funding sources have their own reasons to be wary of DreamWorks: the fledgling studio was too early on digital television in the dotcom era, Geffen and Katzenberg adopted hardball negotiation tactics on earlier distribution deals which make a repeat game difficult. The ancillary and complementary markets in cable television, DVD and Blu-Ray sales face a volatile near-term future. Collectively, these factors may weaken Spielberg’s negotiation stance as the global financial crisis closes off other funding sources.

To have different negotiation options Spielberg may need to alter his game plan and overcome two barriers.

First, DreamWorks never developed the economies of scale and leverage to achieve Spielberg’s strategic vision as an independent studio. It overestimated demand for its Shrek and Transformers franchises and made money instead on mid-level romantic comedies and animation films. DreamWorks faced firm-specific risks from distribution partners which it hedged using ancillary and complementary markets to control revenue forecasts. Instead of the prohibitive cost structures of a studio Spielberg could model an independent DreamWorks on a smaller vision: Francis Ford Coppola‘s Zoetrope and Harvey Weinstein‘s Weinstein Company.

Second, Spielberg could look at other options to raise capital. He could follow David Bowie‘s example of asset-based Bowie Bonds and underwrite the films through commercial bonds on the future revenues of individual films or a production slate portfolio. Commercial paper may be an option as the global finance crisis recedes. A far more disruptive strategy would be if Spielberg adopted a microfinance model that would enable a broader range of investors to participate than the traditional debt and equity markets. DreamWorks’ legacy would then surpass the Hollywood studio system to encompass the bottom billion‘s dreams of financial independence.