Study of the Audiovisual Distribution Sector in Canada

Prepared by: Nordicity
March 31, 2011

Nordicity project team:
Peter Lyman, Project Director
Julie Whelan, Project Manager and primary researcher
Dustin Chodorowicz, Senior Economics Advisor
Stuart Jack, Senior Policy Advisor
Kristian Roberts, Senior Research Advisor

In association with:
Guy Mayson, Maycorp Media
and
Greg Rubidge, Syndicado Inc.

Table of Contents

Executive Summary

Over the years, as part of its commitment to developing a stronger Canadian audiovisual (AV) industry, the government of Canada has employed a number of policy measures and funding mechanisms to support the AV distribution sector in Canada. The federal government has monitored the sector throughout this time, but has not commissioned a profile of its development since the mid-1990s. In this time of technological change and business consolidation, it was felt that one is now timely.

This study provides an historical and modern-day portrait of the Canadian distribution industry, within the limits of available data, and outlines some recent trends in the continued development of the sector. 

The AV Distributor

The locus of this study is the distributor, and so focuses on the AV content whose rights are typically acquired by individuals and companies primarily in the distribution business in domestic and/or foreign markets. The AV content distributed comprises feature films, television and video content (whether in linear or interactive format). Thus, the AV distributor acquires or licenses the rights to content for distribution to some or all of the conventional outlets and new digital platforms and to whatever markets are negotiated between the rights holders and distributors. These rights may be sold under various constraints regarding terms of license, format of exhibition, territory and the number of plays a given title may receive. The AV distributor, however, is not usually itself the actual physical distributor of the content to customers.

Distributors have been important to the development of the Canadian AV sector in various ways since the late 1960s. Today, in addition to triggering a producer's eligibility for certain funds in the case of feature films, an AV distributor can add value by designing effective content release strategies in a highly-competitive and ever-changing landscape. Professional marketing and publicity campaigns can be a crucial aspect of the role and expertise of distributors and are vital to the sales performance of productions where they play a significant role, particularly for feature films.

While critical to feature films, the Canadian AV distributor plays a smaller role in the distribution of television content. In fact, much of original Canadian television programming does not flow through an AV distributor for first window, home territory licensing at all. Especially as they consolidate, Canadian broadcasters are few enough in number that producers can make their commercial arrangements directly with broadcasters. Thus, original programming is mainly "green lit" (authorized) through broadcasters' pre-commitments to the TV program.

TV programming that is library product is a different story. The waves of new specialty-TV channels added many more broadcast customers who acquired Canadian content off the shelf from producer or distributor libraries - but only programming that had already been exhibited by broadcasters. It is an aftermarket for rights to fill the schedules of broadcasters for low license fees, so the role of distributors is only transactional rather than linked with any marketing to viewers. 

Distribution of original TV programming to foreign markets also represents a different pattern. Producers, their distribution arms, or international sales agents are important for international distribution of feature films as well as TV programming - although only for the markets that are not already acquired by the TV production's foreign investors (e.g. foreign broadcasters).

The emergence of new platforms has not altered the basic structure, in that broadcasters tend to acquire the new online rights when they commission original TV programming from independent producers. There is still a limited role in that context for the TV program distributor. As audience viewing habits have started to shift to online downloading and electronic streaming, broadcasters have begun to demand all domestic rights to programming that they were acquiring from producers. They typically acquire from the producer the rights for all TV outlets in Canada for several years, as well as for other platforms, such as video-on-demand (VOD), mobile, and on-line. This dominance of the rights by the broadcasters leaves little opportunity for the AV distributors for the distribution of original content in the domestic TV market.

Federal Film Distribution Policy has Protected Canadian Distributors

The Investment Canada Policy on Foreign Investment in the Canadian Film Distribution Sector is interlinked with Canadian feature film policy.

The Policy states that: 1) no takeovers of Canadian-owned and -controlled distribution businesses; 2) establishments are allowed only for new distribution businesses in Canada that distribute proprietary products (where the importer owns world rights or is a major investor); 3) investors in direct and indirect acquisitions of foreign distribution businesses operating in Canada must reinvest a portion of Canadian earnings in accordance with national and cultural policies."¹ In large part due to these federal measures, the Canadian AV distribution sector that concentrates on feature films has remained strong and relatively stable.

The history of AV content distributors in Canada can be segmented into five eras:

1. The early years 1967-1873;
2. The Capital Cost Allowance 1974-1982;
3. Pay-TV, home video & TV production support 1983-1990;
4. Production funding restructuring & growth of film distributors 1991-1999;
5. Consolidation & emergence of digital 2000-2010. 

Both the policy context and distribution dynamics have evolved through each era. This evolution intertwines with the development and maturation of film production in Canada and provides insight for a portrait of today's AV distribution environment.

AV Distribution in Canada is a $2 Billion Business

In 2009, the total AV distribution revenues of $1.95 billion included $1.19 billion earned from the distribution of films, television programs and other video content, $750 million from the wholesaling of pre-recorded videos, and $18 million from other sources.² Between 2003 and 2009, Canada's AV distribution sector exhibited gradual - although very slow - growth in revenues. Over that six-year period, the sector's total revenues increased by an annual average rate of 2.5%, although in constant dollars the increase was just 0.7% between 2003 and 2009. For Canadian-controlled distributors, low or negative profitability was caused by a combination of factors, including rising marketing and promotion spending, high cost of goods sold expenditures and a slowdown in the more profitable home entertainment sales. In addition, much of the desired revenues and savings heralded by digital technology for distributors have yet to be realized.

Foreign productions accounted for the vast majority of domestic distribution revenues between 2005 and 2009. In 2009, foreign productions accounted for 87% of the total domestic distribution revenues, or $1 billion; Canadian productions accounted for just over $149 million, or 13%. Similarly, the domestic market drove 95% of distributor revenues. Foreign market distribution revenues have grown steadily since 2006, but at just $62.8 million in 2009, they remain a very small part of the sector's total revenues.

The Canadian AV distribution sector is based heavily on the domestic distribution of foreign content. In both French- and English-language markets, Canadian feature film distributors have long benefited from forming important output deals with international (primarily American) classics divisions for access to their feature film content. These lasting relationships can contribute to developing the expertise and ability of the Canadian distributor.

Since 2006, distributors have derived the majority of domestic revenues and the highest revenue growth, from distribution to the conventional television platform: 48% in 2007, 52% in 2008 and 61% in 2009. Theatrical distribution revenues, on the other hand, remained stable from 2003 to 2009. In 2003, at $353 million, theatrical revenues constituted 36.1% of total revenues. In 2009, the theatrical revenue share was 36.2% and $369 million - a 0.5% annual growth rate in dollars not adjusted for inflation.

As the sales for physical home entertainment goods (e.g. DVDs and Blu-Ray discs) decline, all eyes shift to online and on-demand sales. On-demand windows have grown in number and complexity with pay-per-view, VOD, near-VOD and other formats exhibiting both film and television content. Sales in these channels are growing rapidly, according to distributors, but are not yet large enough to fill the gap left by the decline in physical home entertainment sales.

Together, these platforms apply pressure on, and threaten the exclusivity of, the traditional first windows such as theatrical (film content) and broadcast (television content). As a result, an AV distributor must negotiate with the broadcast distribution undertakings (BDUs) such as Rogers and Videotron, and over-the-top (OTT) suppliers such as iTunes and Netflix, while simultaneously protecting its own role in the value chain. Intense leverage is being exerted across the sector, as price, revenues and reporting remain variable.

Canadian-Controlled AV Distributors Retain Important Market Share

Distributors operating in Canada can be divided into two categories: 1) Canadian-controlled and 2) foreign-controlled. Foreign-controlled distributors in Canada include the six studios that form the membership of the Canadian Motion Picture Distributors Association (CMPDA): Walt Disney Studios Motion Pictures, Paramount Pictures Corporation, Sony Pictures Entertainment Inc., Twentieth Century Fox Film Corporation, Universal City Studios LLLP, and Warner Bros. Revenue data by country-of-control is limited. In the 2006 to 2009 period, foreign-controlled distributors generated nearly three quarters of the total distribution revenues in Canada, or $1.38 billion in 2009. The Canadian-controlled distributor revenues have remained stable, claiming 29.4%, or $575 million of total 2009 revenues.

Canadian distributors are reacting positively to the advance of Netflix and iTunes into the Canadian market because these international firms tend to deal directly through Canada's key distribution and media companies and not directly with producers. Logically, these large online service providers would prefer to deal with fewer distributors, in possession of larger libraries (i.e. aggregators), rather than myriad individual production companies. This arrangement poses a barrier for some small producers and distributors and so a small market has opened for larger distributors to aggregate and distribute for third parties who cannot access iTunes themselves. iTunes has established, for example, a list of preferred distributors (including large content holders, such as the CBC) as well as a restriction whereby it will only accept files sent through one of three or four iTunes-approved encoding houses in Canada. While these barriers restrict some trade, they are reminiscent of equivalent practices employed over the years by major retailers, such as Wal-mart.

Conclusions

The conclusions drawn from this study about the role, achievements and prospects of the AV distribution sector in Canada are highlighted below.

Policy and entrepreneurship have created a reasonably strong domestic distribution sector in Canada, at least for feature film.

• The various film and TV production policies and the feature film distribution policies have led to the development of a sizeable film/video distribution sector in Canada. Certainly, distributor entrepreneurs took advantage of the potential market opportunities created by the 1988 Film Distribution Policy, and lined up output deals with significant international production/distribution companies.
• Canadian-controlled distributors have grown their share of the total market for distribution of foreign and Canadian films, although have reached a plateau of about 25-30% over the last few years. There is a cadre of experienced executives in distribution and new entrants who bring new approaches to the marketplace.
• This market share for Canadian-controlled distributors has been achieved primarily by the success of domestic films in Québec, and access to a wide range of commercially successful foreign films in the domestic market in Canada.
• The barriers to entry to the Canadian distribution market are not inconsiderable. Building key relationships, credibility and a library of content to exploit all take time, capital for upfront investments and high risk tolerance.
• While more important in the early years before the broadcaster consolidation in Canada, there has been a limited role for independent Canadian distributors of TV programming for the domestic Canadian market.
• While there is a need for sales agents and distributors to access foreign markets for TV and feature film programming, there are fewer Canadian companies focused on the foreign distribution of third-party content than in the past.

The creation of Canadian distributors has helped the growth of the French-language film sector, and offers English-language product a way to get to market.

• The Canadian Feature Film Policy objective of generating box office revenues for Canadian feature films has been successful for French-language films. Although a product of several factors, the existence of a strong feature film distribution sector has been a key factor in achieving box office success in Québec.
• The same results have not been realized for English-language films, but the existence of a strong distributor sector has been essential for Canadian feature films to access movie theatres, home video, and TV markets.
• While feature film producers have frustrations with their distributors, it is a universal phenomenon, and the more experienced producers recognize the value, role, and market limitations of distributors.

Within the overall distributor level of success in revenues, there has been a fair amount of restructuring at the company level.

• A historical review of the distribution sector shows that many distribution firms enter and exit the market, though many veterans have stayed in the business in new formations. This turmoil seems to have been caused in part by an inability to adapt to technological changes in the market, e.g. the introduction of home video technology.
• Lower margins over the last few years are in part responsible for some consolidation of the sector, and have put a premium on scope and scale economies. 
• Historically, there has always been a tendency for distributors to take part in the production business, and for producers to create their own distribution arms. And there are periods when distributors disband their production business. These trends seem to be continuing, in part to better access foreign markets, and in part to get the right mix to match domestic and international market conditions.

While overall demand for content supplied on digital platforms is expected to be strong in the next several years, the uncertainty going forward inhibits distributors from seizing the new opportunities. 

• Because of ease of access to content and low production costs for entry level content, there exists a lot of product chasing for existing and new markets. It has been described as an exponential growth of AV product available.
• The product availability and the development of new platforms mean that there is a lack of predictability in revenue and business performance. There is also uncertainty about business arrangements due to the destabilization of the traditional release windows market, traditional partners and customers, and the whole business model for AV distribution.
• Lack of predictability and stability in revenue and business performance has made many Canadian producers and distributors quite cautious about defining new business arrangements for fear of making mistakes. It feeds on the largely risk averse culture in Canada, which is also the result of a small, fragmented market.

Canadian distributors will serve the new platforms, but the new sources of revenues will not make up for declines in current ones, and margins may remain low.

• Early indications are that new platforms and aggregators/retailers like Netflix and iTunes will turn to Canadian distributors to acquire their product. In fact, the proliferation of new platforms creates opportunities for Canadian distributors of film and the full range of AV product.
• Canadian distributors have experienced fewer market downdrafts than their American counterparts, as the DVD market has not declined as rapidly and the theatrical release segment has been growing. However, TV markets are not as robust as in the past, and the new platforms are not creating the same level of revenue opportunities to replace the decline in the traditional markets.
• Home video and pay-TV (and other TV outlets) are very important contributors to the bottom line of distributors. But there is less margin (at least at this point) from new platforms, which price their product competitively to gain share and combat illegal free content. It is possible that at some point revenues will increase but the market is not there yet. 

New forms of competition to distributors are emerging, and Canadian distributors will need to adapt.

• Upheavals are common in Canada's AV distribution history but while the firms may change, the professionals in the business seem to remain. Operating in a competitive landscape dominated by a small number of US majors, all distributors must be highly adaptable to change.
• New digital technology is altering the way audiences consume film and television content. The viewers' "anywhere, anytime" content expectation disrupts the orderly, linear windows of exhibition that the AV distributor of feature films has experienced since the advent of television, pay-TV and home video. New competitors, online aggregators, off-shore OTT content providers and VOD providers each jockey for position in the new distribution environment.
• In this time of flux, some security comes from expertise in exploiting all rights. Without knowing how the future of on-demand offerings, online pricing, piracy and the possibility of a regulated internet will unfold, the AV distributor must learn to work with the new platforms and new relationships in order to survive. Such adaptability was not always evident among the Canadian-controlled AV distributors for example, during the introduction of videocassette recorders (VCRs) and DVD players.
• One way to adapt is to "go global" - diversifying with new products, partnerships and markets in Canada and abroad. "Niche" distribution is also an alternative, as some small, savvy distributors market their new platform expertise to the larger firms and independent producers.
• Distributors will need to invest in new platforms of distribution even though there is no certainty in their future.

The advent of new platforms and technology constitute a seismic shift for the AV distribution sector in Canada.  To fit into the new, complex value system, Canadian distributors must continue to add value to AV content by continually adapting and redefining their own role.