Sunday, December 13, 2009

It's All Fixed (Part 5 of 8)

This is an article in a series. You may read all the articles by clicking here.

The problem at the chewy center of the free debate is about fixed costs.

Let’s say you’re publishing a book. If your book costs $5,000 to produce the initial printing plates, but only $5 to print and distribute each book after those plates are made, then your fixed cost is $5,000 and your marginal cost is $5. Traditionally, a publisher might charge $20 per book and break even once that $5,000 fixed cost had been recouped after which the publisher could either sell each book for as little as $5 or continue selling them at $20 to make handsome profits.

Unfortunately for producers, competition will always drive retail prices as close as possible to their product’s marginal cost and—in the case of airlines desperate to capture holiday travelers—retail prices can sometimes go lower than the marginal cost. Other market forces like labor unions and anti-outsourcing lobbyists are hard at work to artificially inflate this downward market pressure but, ultimately, businesses must seek profit (or simply survival) by using their resources in the most efficient way possible… which often means relocating factories overseas where 10 foreign employees cost the same as one American employee, or installing cutting edge technological systems that do three times the amount of work with only half the staff. Still, it’s the fixed costs that matter. If you don’t get your fixed costs paid back, your business will soon die.

And no matter what your product is, basic economic laws apply—no business model is sustainable when 1) fixed costs are so high that they can never be recouped or 2) retail prices are consistently lower than marginal costs. Therein lies the quagmire for the movie industry: unlike books and music, movies cost a lot. Studio movies have staggeringly high fixed costs and, for theatrical releases, substantial marginal costs as well. By comparison, a movie’s digital distribution (marginal) costs are nil—once a film gets burned into a digital version, it can spread like wildfire around the world with no harm to the original file. Digital files are an infinitely renewable resource.

If movies cost too much (i.e., their fixed costs are higher than their projected revenue) and the movie itself is the only product being sold, then piracy does indeed pose a fatal threat to that particular movie and fundraising for similar films in the future. Thus, if studios are resolute in keeping the industry exactly as it has been over the last 60 years, then the film industry will get left behind, just as horse carriage drivers were left behind when automobiles were first introduced into the market. As Big Champagne CEO Eric Garland says, “…growing a sector is a privilege, not a right.” How bitterly ironic that Hollywood was founded by a group of independent filmmakers who blatantly ignored Thomas Edison’s patent laws—those outlaw "pirates" are now the orthodoxy. Oh, how the mighty shall fall...

This article is part of a series called The Filmmaker's Roadmap to Free. You may read the entire articles by clicking here, or the other articles here:
The Filmmaker's Roadmap to Free: An Introduction

The Free Debate:

  1. Free: The Future of a Radical Price by Chris Anderson
  2. PRICED TO SELL: Is Free the Future? by Malcolm Gladwell
  3. Dear Malcolm: Why so Threatened? by Chris Anderson
  4. Malcolm is Wrong by Seth Godin
  5. Free vs. Freely Distributed by Mark Cuban
  6. Chris Anderson, Malcolm Gladwell And A Look At Free by Michael Masnick
  7. Freemium and Freeconomics by Fred Wilson

The Filmmaker's Roadmap to Free:
  1. OK, it's wrong... so what?
  2. The Moral Issue
  3. Feedback from Pirates: A Case Study
  4. Digital Theft, Oxymoron
  5. It's All Fixed
  6. Creating Value
  7. The Way Out
  8. The Key is Generatives
  9. Acknowledgments & Further Reading

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