lions gate pdf

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SHOWTIME FOR LIONS GATE

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PHOTOGRAPH BY BRENT HUMPHREYSBY EDWARD ROBINSON AND MICHAEL WHITE

THE INDEPENDENT STUDIO THAT REPELLED CARL ICAHN’S HOSTILE TAKEOVER IS PRODUCING ITS PRICIEST MOVIE YET—THE HUNGER GAMES—TO LEAD A COMEBACK.

SHOWTIME FOR LIONS GATE

Lions Gate CEO Jon Feltheimer, left, and Vice Chairman Michael Burns are betting that The Hunger Games becomes a franchise.

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S H O W T I M E F O R L I O N S G A T E

Jon Feltheimer and Michael Burns crank up the volume as an image flickers to life on a flat-screen TV in their offices at LionsGate Entertainment Corp. in Santa Monica, California.

For years, Lions Gate’s two bosses have searched for a breakout franchise of movies to allow the independent stu-dio to thrive in an industry dominated by behemoths such as Walt Disney Co. and Time Warner Inc.

On this August afternoon, the two men watch a 60-second trailer for what they say is their best hope—The Hunger Games. It’s set in a dystopian future where a totalitarian state forces 24 teens to duel to the death on national television. On screen, a 16-year-old girl runs through a dark forest as fireballs explode in the trees around her. She fires an arrow and it morphs into a fiery logo for the $80 million movie—Lions Gate’s biggest production ever—scheduled for a March 23 release.

“Hey, we’ve got something really spe-cial here,” says Feltheimer, 60, Lions Gate’s co-chairman and chief executive officer. Burns, 53, the studio’s vice chair-man, praises Jennifer Lawrence, the 21-year-old actress who plays the film’s bow-wielding heroine. “She looks like she could start a revolution,” he says.

In an era when blockbusters released by the six major studios have little im-pact on the share price of their parent corporations, Lions Gate offers inves-tors the chance to bet on the perfor-mance of a single movie. The studio,

which operates out of a plain five-story building, doesn’t have amusement parks and cable networks to keep it going. It rises and falls with the release of every movie or TV show.

“All the major studios are subsumed within multinational media conglom-erates, so even the phenomenal results of a Harry Potter are unlikely to move the stock of Time Warner,” says David Molner, the founder of Screen Capi-tal International Ltd., a Beverly Hills,

California–based firm that financed Oliver Stone’s W. “Lions Gate doesn’t have a lot of places to hide its results.”

The studio, best known for pro ducing the Emmy Award–winning series Mad Men, needs a hit. It has lost money for four straight years, and in 2010 it fought off a hostile takeover bid by Carl Icahn, the billionaire hedge-fund manager. With Hollywood’s fortunes driven by moviegoers ages 12 to 24, Feltheimer!and Burns are counting on

The Hunger Games to become a jugger-naut like the Twilight series. The teen vampire movies have generated more than $2.3 billion in global box office and DVD revenue, according to The Num-bers, a film industry website. “We would be disappointed if we didn’t make three or four movies,” Feltheimer says.

So would investors, who have seen Lions Gate stock drop 45 percent in its four fiscal years ended on March 31. The Hunger Games and three po-tential follow-ups could generate from $220 million to as much as $733 mil-lion in earnings before interest, taxes,

Jennifer Lawrence stars in The Hunger Games, where teens must duel to the death.

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Defeating Carl IcahnThe activist shareholder waged a battle to take over Lions Gate and lost.

OCTOBER 2008: Icahn buys 9% stake in studio; price eventually averages $6.90 a share.

MARCH 2009: After studio loses $93 mil-lion, Icahn seeks board seats and buys more shares.

APRIL 2010: Icahn mounts proxy contest to unseat management and place five allies on the board.

JULY: Lions Gate dilutes Icahn’s voting power by issuing 16 million new shares to ally Mark Rachesky.

JULY: Icahn sues studio in U.S. and Canadian courts to block Rachesky from voting shares.

DECEMBER: Lions Gate wins court rulings and Icahn loses proxy contest as stock-holders elect management’s slate.

AUGUST 2011: Icahn agrees to sell stake at $7 a share, making about $4 million on paper, and he and studio later end pending litigation.

Sources: Bloomberg, court records, SEC filings

depreciation and amortization during the next several years, according to fore-casts by James Marsh, an equity ana-lyst at Piper Jaffray & Co. in New York, who rated the stock a “buy” as of mid-October. The high-end forecast would amount to three- quarters of the stu-dio’s market capitalization of $975 mil-lion as of Oct.!10. “The Hunger Games could be the biggest catalyst for Lions Gate’s profits and share price during the next decade,” Marsh says. “It could be a game changer for them.”

A smash would rebut Icahn’s accusa-tions that Feltheimer and Burns were profligate managers who wasted capital on big-ticket movies and harmful acqui-sitions. After Icahn amassed more than 37 percent of Lions Gate’s stock, he sought last year to replace the board and jettison the two studio heads.

Feltheimer, who helped launch the beloved sitcom Mad About You as the head of Sony Corp.’s worldwide TV pro-duction business in the 1990s, assured stockholders that the studio’s deals and ambitious slate of movies and TV shows would pay off. And Burns, a one-time head of Prudential Securities Inc.’s Los Angeles media investment banking unit, executed a financial chess move that di-luted Icahn’s voting power. Icahn lost his proxy contest in December 2010 and failed to place even one director on

Lions Gate’s 12-member board. Nine months later, in August, Icahn agreed to sell all of his Lions Gate stock for $7 a share, 10 cents more than his average cost basis of $6.90, yielding a paper profit of about $4 million.

Lions Gate has bet big on so-called tent pole movies before and come up empty, says David Miller, a Los Angeles–based equity analyst at Caris & Co. In August, the studio released Conan the Barbarian,

a $90 million, 3-D reboot of the swords and sorcery epic that launched Arnold Schwarzenegger’s career in the 1980s. The studio’s hopes that Conan would spawn sequels died after it brought in a

meager $21 million in the U.S. While Li-ons Gate shared the pain with financial partners, its next two releases—Warrior, a gritty father-and-son drama set in the world of mixed martial arts fighting, and Abduction, a $35 million action movie starring 19-year-old heartthrob Taylor Lautner—were also disappointments at the box office. Miller says Lions Gate’s cold streak puts more pressure on The Hunger Games to deliver.

“Conan was an unmitigated disaster,” says Miller, who rated Lions Gate shares a “sell” as of mid-October. “If you follow this company closely, you’ll see it’s al-ways the next movie that becomes the reason to buy the stock. If Hunger Games doesn’t work, the stock is going to take a big hit.”

Feltheimer and Burns have reason to be optimistic. The movie is based on the first volume of a trilogy with 12 mil-lion copies in print in the U.S. and editions in 44 foreign markets, ac-cording to Scholastic Inc., the book’s New! York–based publisher. Author Suzanne Collins’s teen protagonist, Katniss Everdeen, who dispatches her enemies with cunning and violence even as she experiences her first romance, has inspired scores of fan websites, blogs and Facebook pages. The Marlborough School, a private academy for girls in grades 7 through 12 in Los Angeles, is one of many that

A SMASH HIT WOULD REBUT ICAHN’S ACCUSATIONS THAT FELTHEIMER AND BURNS WERE

PROFLIGATE MANAGERS WHO WASTED CAPITAL ON BIG-TICKET MOVIES.

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Lions Gate:Hits and Misses

THE EXPENDABLES2010Mercenaries team up in Sylvester Stallone’s action flick.$103 million

MAD MEN 2007Risque TV series about Madison Avenue be-comes pop culture phenom.$200 million for DVD, streaming

DIARY OF A MAD BLACK WOMAN2005Tyler Perry’s Madea is a comic smash.$257 million for franchise

THE SPIRIT2008Ghostly superhero scares off moviegoers.$20 million

ABDUCTION2011Taylor Lautner action vehicle runs out of gas.$26 million

CONAN THE BARBARIAN 2011Swords and sorcery epic slain at box office.$21 million

have added the books to their read-ing lists.

Burns, a lanky man with a boyish face that belies his taste for corporate com-bat, says the movie offers Lions Gate that most coveted Hollywood prize: a reservoir of revenue that can be tapped for years. “Everyone is looking for sta-bility in this business, so if the first one works, then you should have three more that work, and you create pre-dictability in a very unpredictable busi-ness,” Burns says in his rat-a-tat style.

Feltheimer, whose chiseled jaw and deep-set eyes could get him cast in a Western, nods in agreement. He says The Hunger Games must hit $100 mil-lion in domestic box office sales to justify making sequels. “I’m not too concerned we won’t get to that kind of number,” the studio head says. He points to an issue of Entertainment Weekly magazine on a coffee table. It features two of the film’s hunky young stars, Josh Hutcherson and Liam Hems-worth, on the cover. “There’s just too much heat for this property around the world,” he says.

Burns squirms at his part-ner’s confidence. “Can I just knock on wood through this entire interview?” he says, rapping the side of his chair.

Founded in 1997 in Van-couver by a movie-loving Canadian mining financier named Frank Giustra, Lions Gate made its name producing and dis-tributing edgy R-rated fare such as American Psycho, the 2000 sleeper starring Christian Bale as a Wall Street serial killer. The studio, which went public in 1997, consistently lost money. When Feltheimer and Burns took charge in March 2000, they set out to make it profitable by acquiring other small studios and film libraries and selling DVDs and telecast rights to ca-ble and broadcast channels. “The core of our original strategy was to build a library,” Burns says. “We liked the an-nuity aspect of the income. It’s the gift that keeps on giving.”

By 2006, the duo also snared their first Academy Award. The urban drama Crash won for best picture. The Oscar sits gleaming on a credenza in Felt-heimer’s office.

Feltheimer had tapped a wiry young production executive named Kevin Beggs to lead a push for original TV programming in the then-unexplored

wilderness of basic cable. In 2006, a script brimming with workplace sex penned by Matthew Weiner, a writer on HBO’s mobster series The Sopranos, landed on Beggs’s desk. It was called Mad Men, and Beggs and Feltheimer fell in love with its depiction of the martini-soaked world of Madison Avenue in the early 1960s. Still, concerned that the show wouldn’t sell overseas, Beggs passed on making the pilot. So did HBO. Undeterred, American Movie Classics, a Figures are U.S. box office. Sources: Box Office

Mojo, Lions Gate, The Numbers

Sylvester Stallone, top, directs and stars in The Expendables; Eva Mendes as a femme fatale in The Spirit.

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cable haven for old Westerns, went ahead and made the pilot and sent it to studios. Beggs and Feltheimer were won over by the show’s risque themes and hastily consummated a production deal. “It had its risks, but we saw the quality,” says Beggs, 45, a Californian who started his production career on the bikini and beefcake series Baywatch. Mad Men would go on to become the studio’s No. 1 TV program, generating $200 million in streaming rights and DVD sales for its first four seasons.

At the close of fiscal 2007, the studio raked in $257 million in sales from li-censing the 11,800 movies and TV epi-sodes in its library compared with almost $40 million on the 1,500 titles it controlled in 2001. The studio’s two most valuable franchises—the Saw se-ries of horror films and Tyler Perry’s comic Madea movies chronicling African-American life—helped it re-cord a third consecutive year of profit-ability. Lions Gate’s shares jumped sixfold from March 31, 2003, to March 31, 2007, or to $11.42 a share from $1.91.

“I initially thought of Lions Gate as a library rollup play, but surprise, sur-prise, they ended up being creative con-tent guys,” says Gordon Crawford, a portfolio manager at Capital Research & Management Co. in Los Angeles, which holds a 9 percent stake in Lions Gate.

By 2008, Icahn had started accumu-lating shares in Lions Gate as Felt-heimer and Burns expanded beyond their original content strategy and into cable TV. That April, they committed to invest up to $43 million in a subscrip-tion cable channel called Epix as part of a three-way joint venture with Metro-Goldwyn-Mayer Inc. and Viacom Inc.’s Paramount Pictures. And in March

2009, Lions Gate paid $255 million in cash to buy the TV Guide Network and TVGuide.com from Macrovision Solu-tions Corp., a Santa Clara, California–based software maker.

Feltheimer and Burns made the deals to deliver their movies and TV programs through alternative channels as DVD sales started falling industrywide. The studio tapped a $340 million credit line to pay for the TV Guide Network and website, and its debt in fiscal 2009 jumped 69 percent to $557 million from the prior year. It was bad timing, as the credit crunch drove the economy into a recession. In fiscal 2009, Lions Gate lost $178 million on $1.5 billion in sales after a flurry of flops such as The Spirit, a movie about a ghostly superhero. Lions Gate’s stock sank to a five-year low of $3.90 on Feb. 10, 2009. Icahn saw his opening and pounced.

In letters to Lions Gate’s board and shareholders during the next year, he criticized management for wasting more than $235 million on money- losing assets such as Epix, TV Guide and FearNet, a cable channel devoted to hor-ror movies. Icahn issued a series of ten-der offers to buy up big chunks of Lions Gate stock. In April 2010, he indicated he would try to unseat Felt heimer and Burns from both the board and the exec-utive suite and install his own allies as directors and senior management. “I

Mad Men star Jon Hamm, at right in photo, with Lions Gate’s Kevin Beggs; below at left, heartthrob Taylor Lautner and the studio’s Joe Drake

Shooting for a Blockbuster LIONS GATE SOLD INTERNATIONAL RIGHTS TO THE HUNGER GAMES TO OFFSET THE RISK OF ITS INVESTMENT IN THE FILM.

*Piper Jaffray analyst James Marsh’s forecast. **Marsh’s forecast of earnings before interest, taxes, depreciation and amortization. Sources: Lions Gate, Piper Jaffray reports

PRODUCTION INVESTMENT

$30MILLION

Lions Gate’s investment backs an $80 million project

featuring special effects and

spectacular action sequences.

1SELLING

DISTRIBUTION RIGHTS

$50MILLION

Executives hedged the financial risk by selling international distribution rights to other media players.*

3MARKETING AND

ADVERTISING SPENDING

$40MILLION

Studio may spend $40 million on TV

and newspaper ads, social media and

other promotions.

2

Lions Gate could reap big profits from box

office and home entertainment sales

if the movie is a hit.**

PROFIT

$105MILLION

4

Liam Hemsworth co-stars with Lawrence in The Hunger Games.

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Burns, left, and Feltheimer take in The Hunger Games’ fiery logo.

Alli Shearmur, left, realized the appeal of The Hunger Games to young adults; Gordon Crawford has a 9 percent stake in the studio.

think profligate spending has taken its toll on Lions Gate’s share price,” Icahn wrote to Feltheimer in a letter on April 15, 2010. He declined to comment for this article.

Feltheimer and Burns countered that Icahn wanted to withdraw from production and focus solely on distrib-uting films to theaters, an approach that would unravel the studio they’d been building for a decade. “Under Mr. Icahn’s proposed direction, Lions Gate would give up its movie busi-ness and its highly profitable TV busi-ness, both of which replenish Lions Gate’s library,” they wrote in a let-ter to shareholders on that April 21.

On July 9, 2010, the two sides agreed to a 10-day truce to jointly explore whether a Lions Gate merger with strug-gling MGM might benefit shareholders.

No deal emerged; yet, Burns used the lull to engineer a critical debt-for- equity swap, according to court records filed in subsequent litigation. Shortly after the cease-fire expired at midnight

on July!20, the studio’s board approved a transaction in which Lions Gate ex-changed about $100 million in con-vertible debt held by Kornitzer Capital Management Inc., a Shawnee Mission, Kansas–based investment firm, into new notes. Kornitzer sold the notes to MHR Advisers LLC, a New York hedge fund controlled by Mark Rachesky, a one-time protege of Icahn’s who had thrown his support to Lions Gate man-agement. Rachesky converted the notes into more than 16 million new equity shares at $6.20 each, well below Icahn’s latest tender offering of $7.

As a result, Icahn’s 37.2 percent stake in Lions Gate was diluted to 32.8 per-cent, while Rachesky’s position swelled to 28.8 percent from 19.2 percent. Along with the support of other allies, Felt-heimer and Burns could count on 43 per-cent of Lions Gate’s voting shares.

Icahn decried the move as a breach of his standstill agreement with Lions Gate to refrain from such action during the 10-day truce. He sued in New York and Vancouver, where Lions Gate is in-corporated, to block Rachesky from vot-ing his shares. Lions Gate said the swap was simply designed to retire debt.

After Icahn lost rulings in both courts, the studio’s shareholders in De-cember 2010 re-elected Feltheimer with 96 percent of the vote. And in Sep-tember 2011, Rachesky, who has been a Lions Gate director since 2009, was named co-chairman.

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Hollywood player that does it all, from producing and distributing movies and TV shows to running cable net-works. Epix is now profitable after its controlling partners negotiated a $1!billion deal to stream its movies on Netflix Inc.’s website. And anchored by Mad Men and Weeds, a series about a marijuana-dealing soccer mom, the studio’s TV revenue has tripled in the past four years, to $353 million in fis-cal 2011.

Yet the executives are struggling with movies, which made up 77 per-cent of the studio’s $1.6 billion in sales last year. After several box-office bombs from Lions Gate, its long- suffering shareholders are now count-ing on it to deliver a blockbuster. “Patience is running out,” Caris’s Miller says. Feltheimer and Burns find their studio’s fortunes riding on the shoulders of a 16-year-old girl fighting for her life.EDWARD ROBINSON IS A SENIOR WRITER AT BLOOMBERG MARKETS IN SAN FRANCISCO. [email protected] WHITE COVERS ENTERTAINMENT AT BLOOMBERG NEWS IN LOS ANGELES. [email protected]

To write a letter to the editor, send an e-mail to [email protected] or type MAG <Go>.

As the takeover fight raged, Alli Shearmur, Lions Gate’s president of movie production, had zeroed in on a hot property making the rounds in Holly wood: The Hunger Games (Scho-lastic Press, 2008). She gave copies to Feltheimer; Burns; her boss, Joe Drake, president of Lions Gate’s motion pic-ture group; and other studio execu-tives. They were immediately smitten by the story of how the resourceful Kat-niss Everdeen fights for her survival in the lethal games of the title. News Corp.’s Twentieth Century Fox and other major studios were also circling the book.

When Drake and Shearmur pitched

author Collins and independent pro-ducer Nina Jacobson for the rights in late 2008, they vowed to make a character-driven story that would resonate with young readers. “We weren’t going to let the violence be gratuitous or the selling point of the franchise,” says Shearmur, who oversaw the Bourne series starring Matt Damon while she was an executive at Universal Pictures Ltd. in 2002. “This is an emotional story about a young girl who sacrifices everything and sets off a revolution she never intended.”

Drake also pledged that, unlike ma-jor studios, which often shelve projects, Lions Gate would make the picture. “We certainly sold the legacy of scripts and great books never seeing the light of day,” Drake says.

In greenlighting Lions Gate’s priciest picture ever, Feltheimer hedged the fi-nancial risk by selling the international distribution rights, except for the U.K., to other studios. Piper Jaffray’s Marsh estimates that Lions Gate collected $50!million in upfront cash from the deals in exchange for permitting its partners to pocket box office sales in

foreign markets. After receiving tax in-centives from North Carolina, where the film was shot this summer, Lions Gate has about $30 million at risk in the production, Feltheimer says. The

studio will probably spend another $40! million in marketing and adver-tising The Hunger Games, he says.

For 11 years, Feltheimer and Burns have labored to turn Lions Gate into a

Lawrence performs at the set in North Carolina.

You can use the Bloomberg Industries dashboard for diversified entertainment to compare Lions Gate’s share of the U.S. and Canadian filmed entertainment market to that of other studios. Type BI DVEN <Go>. Click on Market Share under Data Library on the left side of the screen. Click on the Filmed Entertain-ment tab at the top of the screen for a table that shows annual revenue at the major studios. Click on the Mkt Shr button to display the companies’ revenues as a percentage of the whole market. For the latest box o!ce results, click on the icon to the right of Domestic Weekend Grosses. JON ASMUNDSSON

COMPARING LIONS GATE

Bloomberg Tıps

‘IF THE FIRST ONE WORKS, THEN YOU SHOULD HAVE THREE MORE THAT WORK, AND

YOU CREATE PREDICTABILITY IN A VERY UNPREDICTABLE BUSINESS,’ BURNS SAYS.

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