Home Box Office Inc. Business Information, Profile, and History

Company Perspectives:

Home Box Office continues its strategy of investing in original progr amming, interweaving it with theatrical films from its existing long- term studio output agreements. It aims to increase subscription reven ues as well as maximizing content sales, including syndication and DV Ds.

History of Home Box Office Inc.

Home Box Office Inc. is the leading pay-TV network in the United Stat es. With both HBO and Cinemax in its coffers, the company has a subsc riber base of approximately 39 million and sales of more than $3 billion. As a subsidiary of Time Warner Inc., HBO's programming inclu des original series, HBO Films presentations, Hollywood movies, docum entaries, concerts, and championship boxing. More than 16 million sub scribers in 50 countries outside the United States watch HBO programm ing, including the hit series The Sopranos, Curb Your Enthusiasm,< /I> and Entourage.

1970s Formation

Home Box Office was founded by Time Inc. in 1972 to offer cable telev ision service. As a subsidiary of Time, HBO bought the rights to rece nt films and transmitted them to local systems via satellite and micr owave relays. Its service was distributed by the local cable operator s, typically costing subscribers $6 a month, of which HBO receive d $3.50. HBO management initially regarded the company as an edit orial marketer, selling its programming the way Time sold magazines.

HBO grew slowly in its first years, as the nascent cable industry str uggled to get off the ground. Cable was hampered by market fragmentat ion, lack of infrastructure, and tough federal regulations, some of t hem sponsored by the major television networks, which feared that cab le could eventually steal much of their audience and revenue.

During the mid-1970s the cable industry laid the groundwork for rapid growth: It expanded its infrastructure through such populous areas a s New York City and the suburbs of Boston, won a series of court vict ories that removed many federal restrictions, and won rate increases from local governments. Pay-TV customers, those buying additional cab le services such as HBO, grew from 50,000 in 1974 to about l.5 millio n in 1978. HBO won greater latitude in pursuing customers in 1977 whe n a federal ruling lifted restrictions on the choice of movies and sp orts available on pay-TV. HBO quickly became one of the primary engin es driving the growth of the cable industry. Cable systems operators hooked up thousands of people for basic services who were primarily i nterested in getting HBO.

HBO made its first profit in 1977. It lost tens of thousands of custo mers in 1978, however, as a result of a move by its chief rival, Show time, which was challenging HBO head-on for the cable film audience. During this time, Showtime's parent, Viacom, had struck a deal with T eleprompter, the largest cable systems operator in the United States, which resulted in Teleprompter's customers receiving Showtime instea d of HBO.

Nevertheless, HBO worked diligently on its programming, lining up eno ugh films to make it the premiere pay-TV outlet for commercial films. It also began its On Location comedy series and The Young Comedians Show, one of the first television forums for comedians such as Robin Williams and Paul Ruebens (Pee-Wee Herman).

In 1978 Time spent $145 million to buy American Television & Communications Corp., then the second largest cable systems operator in the United States, hoping a large number of its 675,000 customers would subscribe to HBO. HBO continued to expand, and as it did it was able to pay higher prices per film than its competitors, winning bet ter films and more subscribers. In fact, its financial resources allo wed it to purchase a block of 40 MGM/United Artists films all at once , paying about $35 million. HBO also began investing in the prepr oduction financing of movies in exchange for exclusive pay-TV rights. This prebuying was risky; HBO was paying in advance for the rights t o movies that might prove unpopular. Moreover, the practice angered m ovie studios, which felt that HBO was intruding on their turf, and so me of them began looking for a way into the cable TV industry. Some s tudios warned that HBO would drive many film studios out of business and control the film industry. Although such fears eventually proved unfounded, they demonstrated the depth of concern attached to a new m edium whose ultimate potential remained a mystery.

In 1980 HBO introduced a second channel called Cinemax. This channel was priced lower than HBO and was geared to compete with Viacom's Sho wtime. Viacom would later charge that Cinemax was priced below cost a s a way to drive Showtime out of business.

The Competitive 1980s

By 1982 HBO had 9.8 million subscribers, nearly 50 percent of all pay -TV subscribers, and earned $100 million on sales of $440 mil lion. In fact, HBO was about three times as big as its nearest compet itor, Showtime. This size advantage contributed to HBO's bottom line. For example, it paid about $1.4 million for the hit film Ragi ng Bull, or about 15 cents per subscriber. Although Showtime paid less for the film, $l million, that figure worked out to more th an 30 cents per subscriber. When Star Wars went on the block i n 1982, HBO matched a Showtime offer of $l per subscriber, but in sisted on price concessions on less popular films made by Twentieth-C entury Fox.

At the end of 1982 HBO worked out a deal with Columbia Pictures and C BS to create Tri-Star Pictures, the first major new U.S. film studio in 40 years. Each company was to contribute up to $100 million to the venture, and HBO received the pay-TV rights. By 1983 HBO, with 1 3.4 million subscribers, was producing made-for-television movies and working on its own original comedy programs. While some industry obs ervers wondered if HBO would become the fourth major noncable televis ion network, the growth of the cable industry as a whole slowed drama tically beginning in 1984. Part of the cause was lingering infrastruc ture problems. New cable systems had not yet been built in major mark ets such as Chicago, Philadelphia, Detroit, and Baltimore. Other caus es for the cable slowdown were rising cable rates at a time when more and more consumers owned videocassette recorders and could rent thei r own films. Finally, HBO had also become complacent in negotiating c ontracts, while competitors moved quickly. As a result, HBO's share o f the pay-TV market slipped from 50.4 percent in June 1983 to 48.1 pe rcent in June 1984, while its profit margins began eroding.

Parent company Time Inc. responded by forcing out HBO chairman Frank J. Biondi, replacing him with Michael J. Fuchs. Fuchs cut HBO's staff by 125 employees and embarked on a $20 million advertising campa ign, overseen by the New York firm Batten Barton Durstine & Osbor n, to polish HBO's image. He also renegotiated contracts with Columbi a Pictures and Tri-Star for the broadcasting of films and cut expense accounts and other costs.

As a result of the contract renegotiations, HBO gave up exclusive rig hts to many films. Rival Showtime, meanwhile, was trumpeting its new policy of showing films exclusively or not showing them at all. Previ ously, both the two firms had shown some films exclusively, but share d many others. As a result of its new policy, Showtime won exclusive rights to several popular films. HBO management was angered, feeling that they already had learned that exclusive rights cost more than th ey were worth and that Showtime's move had increased the prices of ac quiring even limited rights. Showtime's strategy also pushed HBO into negotiating for exclusive rights for more films than it otherwise wo uld have done. Some industry analysts felt that the price of buying f ilms for pay-TV should be decreasing, since the popularity of videoca ssette recorders had lowered their worth.

Despite the cable television slump, HBO had 14.6 million subscribers in 1985 and sales of about $800 million. Early the following year it began to scramble the signals it used to broadcast its programmin g to cable-system operators. Until then anyone with a satellite dish could tune in HBO for free.

Continuing to stock its film library, HBO bought the rights to 125 Wa rner Brothers films for five years for $600 million in 1986, also buying the rights to 72 films by MGM/UA Entertainment for four years . The following year, it bought the rights to 85 Paramount Pictures f ilms over a five-year period.

In 1989 Viacom filed a $2.4 billion antitrust lawsuit against HBO . Viacom's Showtime subsidiary alleged that HBO was trying to put it out of business by intimidating cable systems that carried Showtime, as well as by trying to corner the market on Hollywood films to preve nt rivals from showing any. The suit attracted wide attention, genera ting negative publicity for the cable industry at a time when the U.S . Congress was considering the re-regulation of cable. Part of the re ason the antitrust charges attracted so much attention was because th ey were being delivered by former top HBO employees; Frank J. Biondi had gone on to become Viacom's president and chief executive officer, while Showtime's president, Winston H. Cox, was also a former HBO ex ecutive. The lawsuit would not be settled until the early 1990s.

In the meantime, hoping to branch out, HBO announced plans for a 24-h our all-comedy channel. Stand-up comedy was experiencing a popularity boom in the United States, and polls of cable subscribers showed ent husiasm for the idea. HBO's The Comedy Channel began with six million subscribers in November 1989, though industry analysts felt it would need 20 million to attract enough advertising to survive. Some criti cs offered harsh appraisals of The Comedy Channel's fare, citing in p articular the way HBO strung together excerpts from stand-up routines , sitcoms, and movie clips rather than longer, more substantial comed ic pieces, and many cable operators were resistant to offering Comedy Channel at all. HBO moved quickly to entice them into buying ownersh ip stakes as incentive to get the new channel wider availability. Com edy Channel suffered another setback when Viacom's HA! began broadcas ting old sitcoms in their entirety, eschewing Comedy Channel's practi ce of showing excerpts. Most industry analysts believed that only one of the channels would survive. Many cable operators did not sign up for either, waiting to see which would get more support.

HBO invested heavily in advertising to win subscribers to its new and existing services, spending about $38 million in 1990 alone. Bot h Comedy Channel and HA! were struggling, however, and in a surprise move, HBO and Viacom agreed to merge them into Comedy Central late in 1990. This shared channel, Comedy Central, would eventually go on to experience great success, producing several popular original comedy shows of its own.

HBO's legal challenges were not over, however. During this time, Broa dcast Music Incorporated (BMI), a performance-rights society, sued HB O over the rates it was paying for the use of BMI-protected music. Th e suit was settled in January 1991 when HBO agreed to raise the rate it paid for its blanket license to 15 cents per subscriber per year, up from 12 cents.

One of the most common complaints subscribers had about pay-TV channe ls was that they all tended to show the same films at the same time; once a person had seen the film, there was nothing on TV to watch. As the cancellation rate for HBO was about 4 percent a month, or about 850,000 of its 17 million subscribers per year, this lack of options was believed to be an important factor. To hang on to subscribers, HB O announced in 1991 that it would convert HBO and Cinemax to multicha nnel services. Each network would broadcast different programming sim ultaneously on three different channels. Many cable systems had no ex tra channels to offer, but HBO management hoped new technologies woul d expand the number of channels available. Because the company had to wait for fiber-optic lines to be installed and data-compression tech niques to become more widely available, however, some industry observ ers estimated that it would be three to five years before these multi ple channels were widely available.

In August 1992 the Viacom suit was finally settled out of court, havi ng cost both sides tens of millions of dollars in legal fees. Time Wa rner, HBO's parent company, agreed to pay Viacom $75 million and to buy a Viacom cable system in Milwaukee for $95 million, $1 0 million more than it was worth at the time, according to the Wal l Street Journal. Time Warner agreed to more widely distribute Sh owtime and The Movie Channel on Time Warner's cable systems, the seco nd largest in the United States. The two sides also agreed to a joint marketing campaign to try to revive the image of cable, which was ag ain in a slump; HBO had lost about 300,000 subscribers in 1991, leavi ng it with a total of 17.3 million.

In the late 1980s and early 1990s many analysts predicted the end of pay-TV. Competition from advertiser-supported basic cable channels an d pay-per-view options threatened an HBO already weakened by the popu larity of home video rentals. HBO, however, fought back on several fr onts. CEO Michael Fuchs began an aggressive marketing campaign and co ntinued to expand the availability of multiplexing around the country . He expanded the company's ventures outside its traditional enterpri ses, taking on sports licensing, such as the licensing of the World C up logo. In addition, HBO moved into foreign pay TV markets and began selling original HBO productions for foreign theatrical and home vid eo distribution.

An Early 1990s Turnaround

Several of these strategies soon showed results for HBO. The company' s foreign pay TV ventures proved highly successful and helped maintai n profits. Foreign distributions were booming by the mid-1990s. Outsi de ventures, such as sports licensing, grew quickly, accounting for 2 8 percent of revenues in 1993, up from 1 percent in 1982. On the home front, aggressive marketing and multiplexing were apparently behind the mild boost in subscribership in 1992. Membership continued to ris e; in 1993 the subscriber base increased by one million to 24.7 milli on.

Competition for exclusive rights to Hollywood films subsided in the e arly 1990s, bringing down licensing costs by 20 percent. The end of t he bidding wars helped raise HBO's profits: In 1992 operating profits were up by 10 percent, to $215 million, and they rose the next y ear as well, to $230 million. The tides had begun to turn for HBO , which in 1993 provided 8 percent of Time Warner's pretax profit.

Having rebounded somewhat from its slump in the late 1980s, HBO neede d to maintain its momentum. In 1994 Jolie Solomon of Newsweek assessed the situation, noting that CEO Fuchs "must stay ahead of the multimedia revolution, especially the technology that will create ho me-video jukeboxes. His strategy is to make HBO a powerful brand name , signaling high quality on the cutting edge." To that end, Fuchs upp ed the company's advertising and focused increasing amounts of HBO's time and budget on original productions, including movies, specials, and series. Because HBO did not need to attract and keep advertisers, it could take on subjects in its original productions that networks would not touch, such as Barbarians at the Gate, a 1993 movie critical of R.J.R. Nabisco.

Fuchs's competitive, aggressive, and some said antagonistic managemen t style, however, was not popular among all board members and shareho lders, and he was replaced as CEO in 1995 by Jeffrey L. Bewkes. Havin g served HBO for years as an executive, Bewkes moved into the top pos ition smoothly. With a more cooperative managerial style, especially with fellow subsidiary Warner Brothers, Bewkes continued Fuchs's gene ral strategy of creating original programming and promoting HBO as a high-quality brand. In fact, in 1997 he spent an impressive $25 m illion to promote that brand, a figure that did not include the adver tising budget for specific programs.

The company's efforts at original programming gained momentum in the late 1990s. In 1997 HBO received 90 nominations for Emmys, marking th e first time a cable network had garnered more nominations than any b roadcast network. Moreover, HBO was only narrowly beaten by NBC for t he most Emmy awards won. Praise from critics was on the rise as well, particularly for the channel's original series, such as the comedy The Larry Sanders Show and the drama Oz. In 1999, HBO in ked a deal with Twentieth-Century Fox and secured exclusive rights to its films for another ten years.

By the late 1990s, HBO had held its own against those threats to pay- TV against which other top competitors were still struggling. The Sta rz! and Showtime movie networks were both trailing HBO with fewer tha n half their subscribers. The satellite market had matured by 1998, h owever, and HBO could no longer rely on that market boom for increasi ng its subscriber base. Thus, although HBO had long outlasted predict ions of its demise, it still faced many challenges as it approached a new century.

Success in the New Millennium

HBO entered the new millennium on solid ground thanks to its original programming efforts. More than $1 billion was spent on its progr amming budget at this time, and nearly half of that was allocated tow ard original programming. This budget strategy had catapulted HBO wel l ahead of its competitors. In fact, over the past few years several HBO shows had exploded, reaching iconic status. The hit series, Th e Sopranos, was considered to be the most successful series in ca ble television history. Other shows, including Sex and the City and Six Feet Under, were also highly popular. HBO won 20 Pri metime Emmy awards in 2000, and the company was adding new subscriber s to its base at a steady clip. By now, HBO was seen in 90 percent of the United States' 27 million premium television households.

While HBO was cranking out popular shows and miniseries, including Band of Brothers, its parent company was working on a blockbuste r deal of its own. In 2001, America Online joined forces with Time Wa rner in a hotly contested, highly publicized $106 billion mega-me rger. The new company was named AOL Time Warner (Time Warner dropped AOL from its name in 2003).

In 2002, HBO chairman Bewkes was tapped to head up Time Warner along with Don Logan. HBO veteran Chris Albrecht was named his successor. H BO's good fortune continued under Albrecht's leadership. The company was one of the most profitable units in the Time Warner empire and in 2004 sales surpassed $3 billion for the first time. HBO hit a br ief snag in 2003 when Sopranos lead actor James Gandolfini sue d the company, attempting to break his contract. In a highly publiciz ed battle, Albrecht threatened to pull The Sopranos off the ai r. In the end, Gandolfini returned to work during his contract negoti ations and the show was broadcast as planned.

In 2003, HBO reigned above all other networks at the annual Emmy cere mony, receiving 18 awards. It won a record 32 Emmys the following yea r. The trend continued in 2005 when it took home 27 awards. Along wit h its lineup of original series, HBO's Film business segment continue d to produce highly acclaimed original movies, including My House in Umbria, The Life and Death of Peter Sellers, and Iron Jawed Angels. In 2005, the company partnered with New Line Cinema to a cquire Newmarket Entertainment's distribution business.

Several new shows were slated to debut in 2005, including The Come back, Rome, and Unscripted. Cable channel A&E signed a contract with HBO that year, paying $2.5 million per episode to air The Sopranos starting in 2006. The company also partnered with the Public Broadcasting Service (PBS) in a deal that allowed PBS to air three original HBO films.

By now, HBO stood as the most-watched pay-service in the United State s. It held an enviable position among its competitors but realized th at fickle U.S. consumers could quickly change its fortunes. In the ye ars to come, the company would have to create unique original program ming to rival its hit shows like Sex and the City and The S opranos (which was rumored to be ending in 2006/2007). HBO manage ment was confident, however, that its strategy would continue to pay off and that its programming would entertain subscribers for years to come.

Principal Competitors: The NBC Television Network; Showtime Ne tworks Inc.; Starz Entertainment Group LLC.

Chronology

• Key Dates:
• 1972: Time Inc. creates HBO.
• 1980: HBO introduces a second channel called Cinemax.
• 1982: HBO works out a deal with Columbia Pictures and CBS to c reate Tri-Star Pictures, the first major new U.S. film studio in 40 y ears.
• 1989: Viacom files a $2.4 billion antitrust lawsuit agains t HBO.
• 1990: HBO and Viacom merge The Comedy Channel and HA! to form the Comedy Central channel.
• 1991: The company announces that it will convert HBO and Cinem ax to multichannel services.
• 1992: The Viacom lawsuit is settled out of court.
• 1997: HBO receives 90 nominations for Emmys--the first time a cable network has garnered more nominations than any broadcast networ k.
• 1999: The Sopranos debuts.
• 2002: Chris Albrecht is named chairman and CEO.
• 2004: HBO wins a record 32 Emmy awards.