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DVD Cpmpanies Brace for Mergers

To many, Lion’s Gate Entertainment’s recent bid to purchase Chatsworth-based multimedia entertainment firm Image Entertainment Inc. was a mere blip on the radar screen of the fast-paced entertainment world. Yet as the home video market matures and the battle for shelf space on the floor of big-box retailers increases each year, many experts forecast increased consolidation in the DVD marketplace. For the past several years, Hollywood studios have been able to turn to their home video divisions to grab a portion of the windfall of the $17 billion a year DVD market. As the number of Americans with DVD players in their homes has risen to nearly 70 percent of the population, these once-ignored home entertainment divisions suddenly became the most prized components of a studio’s operations. In 2004, home entertainment supplied 20 percent of the total revenues at The Walt Disney Company, 14 percent of the revenues at News Corporation, and 11 percent at Time Warner. But it hasn’t merely been the entertainment giants who have been enjoying the bonanza brought on by the advent of the format. Independent companies like Image, Thousand Oaks-based Ventura Distribution Inc., and Florida-based Alliance Entertainment Corp. also have been exploiting this lucrative market and have been successful in carving out a niche, obtaining, licensing and distributing content that typically flies beneath the radar of the big boys at the top. And even beneath the large “indies,” another group of DVD distributors has cropped up. Some of these firms include local companies Sherman Oaks-based S’more Entertainment, Burbank-based First National Pictures, Woodland Hills-based Tru Company, and Van Nuys-based NuTech Digital Inc. Yet analysts predict that the once-exponential growth rate in the DVD market will slow to a more measured growth and with that, many expect that these smaller houses will gradually become consolidated into larger firms. One of these analysts is Ali Mogharabi, a senior analyst for B. Riley & Company, Inc. “I think you will see more consolidation in the industry. Companies will want to expand their libraries so that they are less dependent on one-hit wonders. The market is certainly slowing down,” Mogharabi said. Many pointed to the first signs of the DVD slowdown earlier this year when Glendale-based Dreamworks Animation SKG reported a loss in its second quarter and said that it expected lower full-year earnings in 2005 than it had originally forecast, because of disappointing sales of its “Shrek 2” on DVD. Pixar also was forced to lower its forecasts due to lower-than-expected sales of “The Incredibles” on DVD. But while these shortfalls are specifically related to overly optimistic forecasts on the part of Pixar and Dreamworks, according to analysts, they do point towards the future of the space, a future that will undoubtedly consist of fewer companies, many of whom maintain extensive libraries that inoculate themselves against such shortfalls. “Consolidation in the industry is inevitable,” Steve Denault, an analyst with Northland Securities, said. “It’s along the old school of thought. The more titles companies have, the better. The thinking is that you need to have leverage when you’re negotiating for shelf space.” Consolidation begins While Lion’s Gate may never end up owning Image, consolidation has already begun to take place in the space. In August, Image purchased Chicago-based Home Vision Entertainment, which allowed it to pick up such titles as “Fear and Loathing in Las Vegas,” the BBC version of “The Chronicles of Narnia,” and the 1973 George C. Scott film, “The Day of the Dolphin.” And just last month, Disney’s Buena Vista Home Entertainment picked up the U.S. distribution rights to the 400 titles from the library of B-movie king Roger Corman. But while Image remains an acquisition target by the bigger Hollywood studios, it remains poised to snap up companies smaller than itself. With revenues of $100 million-plus a year, Image is eager to grow its revenues into the range of $200 to $300 million a year. In order to do this, the company is eager to purchase smaller indies that produce between $30 and $60 million yearly. “There are probably 10 independent distributors that would be great acquisition targets for our company. The retail marketplace is pushing the industry towards more consolidation,” David Borshell, the chief operating officer of Image, said. “The distribution requirements and the general cost to deal with larger retailers is going up and getting harder.” Borshell anticipates that the difficult to manage relationships between the distributors and the all-powerful retailers will became increasingly crucial for independents and will likely cause many of them to acquiesce to being purchased. “It’s difficult to be a smaller indie and it’s not getting easier. Over the next couple of years, the larger retailers are going to push their suppliers towards shipping directly to each retail store and manage all of the inventory shipped,” Borshell said. The cost for a small indie is going to be prohibitive and everyone is starting to hear the rumbling effects. If they don’t partner with someone larger they may get left out.” Ventura Distribution operates in a similar space as Image. One of the larger independent distributors in the nation, Ventura has made a name for itself as the distributor of a wide range of DVD titles, including “The Cosby Show,” “The L Word,” and “The Unauthorized Biography of Johnny Cash.” Like Image, Ventura would seem to be a ripe candidate for acquisition. Yet while Ventura’s COO, Eric Doctorow, acknowledges that industry consolidation is inevitable, he vows that his company will be one of the survivors. “The barrier to entry for home video companies is higher than ever before because distribution expertise, infrastructure and the maintaining of relationships with large retailers is critical as retailers become more selective of the products that they allow in their stores,” Doctorow said. “Consolidation is inevitable and I’m sure that we won’t be the only independent company to survive and thrive but we believe that we’re certainly going to be one of them.” Maintaining relationships According to Doctorow, maintaining of relationships will be crucial for indies as the DVD industry enters a new stage. “Our company has always gone out of its way to honor our relationships with our customers, the retailers and the wholesalers. You need to make them feel as though they have a voice in how the product is brought to market,” Doctorow said. Yet the difficulties inherent in stepping into the DVD fray haven’t stopped many smaller scale independent companies from setting up shop. In the past year or two, many tiny operations have cropped up, not attempting to compete with the major Hollywood studios or even the big independent distributors. But rather, they only offer a few titles, generally to a specific niche of customers. “While you are going to see more consolidation in the space in the future, there is also a significant amount of smaller companies that have popped up in the last year or so,” Scott Hetrick, the editor in chief at Video Business magazine, said. “These small independents have obtained the rights to various old television series’ or other smaller programming, some of them with the intent to eventually sell their company to larger buyers.” One of these smaller firms is S’more Entertainment, a company founded this May by Arny Schorr, a former senior executive at Rhino Home Video. In an attempt to fill a niche in the market, Schorr has thus far licensed more than 50 titles for DVD, including television series’ such as “Mr. Peepers,” starring Wally Cox, and “Good Morning World,” starring Goldie Hawn. “Anybody who says that the idea of amassing a library and selling out hasn’t crossed their mind is a liar. Consolidation seems to be the new American way,” Schorr, S’more’s CEO and president said. “But that isn’t the reason why people are starting these smaller firms up. I don’t need to sell 100,000 copies of a television series like a major studio would. I can sell a box set that can be a major success if it sells 5,000 to 10,000 copies.” Schorr acknowledges the difficulties of getting his products into a Wal-Mart or a Best Buy, yet he maintains that for the smallest distributors to make it they will need to be creative and above all, know their audience. “I’m only in the outlets where it makes sense. A Mr. Peepers box set selling for $40 doesn’t make sense in a Wal-Mart, but it does belong in a Publishers Clearinghouse, a Tower Records, or a Suncoast. We deal with collectibles,” Schorr said.

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