For Hollywood, The VOD Price Is Right

The Federal Communications Commission handed the major Hollywood studios a significant victory last week, granting their long-pending petition to allow use of selectable output controls (SOC) on cable and satellite set-top boxes to prevent copying of early-release video-on-demand movies.

According to the Motion Picture Association of America, the ruling will enable the studios to offer high-definition movies on demand in the home immediately following their theatrical run and ahead of their release on DVD and Blu-ray. While not all consumers will be able to receive the movies in the new early window, the ruling could be an important step for the studios in reversing, or at least arresting, the severe revenue and profit-margin declines in the home entertainment business over the past three years. Or, put another way, it’s an opportunity to raise prices.

Under the FCC’s ruling, the studios will be permitted to embed a bit of code in certain encrypted VOD movies that instructs cable, satellite and IPTV STBs to output the movie to a display only via digital connections that support digital copy protection. Any analog outputs on the box, such as component video or S-Video connections, which transfer signals to a display “in the clear,” would be blocked from outputting the content.

Current FCC rules, which date to 2003, prohibit cable and satellite providers from activating output controls. At the time, many HDTV sets still relied on analog connections to receive a signal, and the agency feared that allowing service providers to block analog outputs would unfairly punish early HDTV adopters.

In 2008, however, the Motion Picture Association of America asked the agency for a limited waiver to the rule to allow the use of SOC for VOD movies in the new, early window. The studio argued that blocking unprotected analog outputs was essential to prevent the movies from being copied and redistributed through the so-called “analog hole.” Without the waiver, they claimed, it was simply too risky to make HD versions of new release movies available in such an early window.

While many consumer groups opposed the petition, claiming it would give the studios unprecedented control over consumers’ devices and leave out many consumers who still rely on HDTV sets without digital connections, the FCC essentially bought the studios’ argument that without the waiver, no one would be able to get movies in the new window because they would never be released.

Public policy debate aside, the waiver comes at a critical time for the studios. DVD sales have fallen sharply over the last three years and sales of Blu-ray, while growing, have not made up the difference. VOD buy rates have increased, but not by enough to offset the losses from DVD.

Declining home entertainment revenue has already forced the studios to take some dramatic steps. Over the past few months, several studios have negotiated new deals with Netflix and dollar-a-night kiosk operator Redbox, often using hardball tactics, that prohibit those retailers from renting new DVDs until 28 days after their initial release. The moves are clearly aimed at limiting further price erosion in the rental market — and by extension protecting the DVD sell-through business — by relegating the lowest-cost consumer options to a less favorable window.

The studios’ push for the new early VOD window is of a piece with those other efforts to raise home-entertainment prices. Compared with current VOD offerings, the new early-window movies are likely to carry a very premium price, probably closer to the purchase price of a Blu-ray disc than to a DVD rental.

Will consumers bite? That will probably depend on how soon after a movie’s theatrical debut it becomes available in the new VOD window. But if the studios can shift even a portion of the current video rental and DVD business into the new, premium-priced window, they’ll be ahead of the game.

Question of the week

How much would you pay to watch movies at home 30 days after their theatrical release?