The Hollywood Economist

The Great Illusionist

Harvey Weinstein rides again.

Weinstein’s back in business

Now that Harvey Weinstein has left Miramax, the distribution company he founded in 1979 and sold to Disney in 1993, he has truly grandiose plans for his new vehicle, the Weinstein Company. Together with his brother Bob, he plans to build a giant “multimedia company, just like we have always wanted.” This summer, he formulated a business plan that stipulates a capital investment of three-quarters of a billion dollars, which would make the Weinstein Company one of the richest independent movie companies in America. So far, according to an SEC filing on Oct. 5, Weinstein has raised $230.5 million in equity. While rounding up the rest, he can borrow up to $150 million in bridge loans from a Goldman Sachs affiliate.

Harvey’s charming of Wall Street is no doubt helped by his image as a ruthlessly successful mogul, an image that he has brilliantly engineered over the years. Even stories about his cruel treatment of others have become part of the legend. When Ken Auletta asked Harvey about his reputation in a New Yorker profile, he replied: “It’s brutal to tell the truth in an industry where everyone lies.” The “truth” according to Weinstein was relatively simple: Miramax was an enormously lucrative movie company that not only yielded Disney a double-digit rate of return on its films but, in recent years, accounted for most of Disney’s profits.

Disney now has a different take on Weinstein’s success story. With the help of an internal audit, Disney has found that Miramax’s financial picture was far less rosy than Weinstein painted it. In fact, rather than buoying Disney’s profits, Miramax was hemorrhaging rivers of red ink. This reversal of fortune proceeds from a loophole in the original deal that Jeffrey Katzenberg, then Disney’s studio head, negotiated with Weinstein in 1993. (That was the year Disney bought Miramax for $70 million.) The Weinsteins had demonstrated a superb gift for finding, shaping, and marketing independent films like sex, lies, and videotape and The Crying Game. To give the brothers a powerful incentive to ferret out similar arty winners, Disney agreed to give them a performance bonus of between 30 percent and 35 percent of their film profits, a bonus that would be calculated each fiscal year.

The deal also tied Miramax’s capital budget for acquiring and producing films to its annual performance. So, the more money Miramax made in a fiscal year, the more money the Weinsteins made and the bigger the capital budget of their Miramax division. Disney further agreed to calculate Miramax’s profits in a fiscal year solely on the films released that year. In making what seemed like a minor concession to Weinstein so that he could use his discretion in timing the marketing of art films, Disney did not foresee how brilliantly he would game this loophole. Through it, Weinstein was able to create the illusion of profits for Miramax and the reality of huge bonus payments for himself and his brother.

How did Harvey do this? He simply shifted potential money-losing films into future fiscal years so that they didn’t reduce either his bonus or Miramax’s capital budget. To prevent Weinstein from overspending, Eisner later imposed a further condition on the deal: For every dollar Miramax exceeded its capital budget, a similar amount was deducted from the Weinsteins’ annual bonus. To avoid this penalty, Weinstein could delay releasing high-budget films in years in which he was close to exceeding his capital budget. As a result, even more films got dumped into Weinstein’s limbo of unreleased movies. For example, Zhang Yimou’s Hero, which had been acquired at Sundance in 2002, was held for more than two years so that its nearly $20 million cost would not count against the Weinsteins’ bonus. Hero was released in 2004, a year less profitable for Miramax in which no bonus would be paid anyway.

In 2005, after the Hollywood super lawyer (and Shakespearean scholar) Bert Fields negotiated the Weinsteins’ exit package, Miramax began releasing many of the delayed movies, including The Brothers Grimm, Underclassman, and The Great Raid, and, with their costs, it became clear to Disney executives that much, if not all, of Miramax’s profits over the last five years would be wiped out by these losses. In 2005 alone, the estimated losses will exceed $120 million. And, to add insult to injury, the Weinsteins’ exit package, reported to be between $130 and $140 million, was partially based on what turned out to be Miramax’s phantom profits in prior fiscal years. (It also included compensation to the Weinsteins for Disney’s right to make sequels, to take over stars’ contracts, and to continue to use the Dimension name.)

Of course, Weinstein could argue that even if Miramax turns out to be much less profitable than he previously depicted, it provided award-winning artistic films such as Pulp Fiction, The Piano, My Left Foot, The English Patient, and Shakespeare in Love that greatly enriched the film culture. If so, perhaps Weinstein acted for the sake of art in expanding his capital budget (and, along the way, gilding his bonuses by millions). OK. But why did Disney allow him to get away with this legerdemain? One Disney executive explained that even though Disney had 100 or so people watching Miramax, they were stymied by Weinstein’s mercurial and evasive actions.

To be sure, even Weinstein’s own people were baffled by his elusive behavior. Two top subordinates recalled how Weinstein’s aides rescheduled a conference call with them every half hour for four hours and with each call reported that he had shifted his location. Finally, at 5 p.m., they were told they were being put through to “Harvey’s room.” They began talking over the speaker phone only to be told that Harvey was no longer in Harvey’s room. He had, like the Wizard of Oz, vanished to yet another location.