The Hollywood Studios aren’t in the business of providing VFX services. Recent acquisitions are more about securing production capacity and technology.
Investors and analysts looking at the VFX space often ask me about the risk of major studio clients bringing VFX production in-house, leaving independent VFX vendors short of work. Netflix’ acquisitions of Scanline VFX (2021) and Animal Logic (2022) have fueled this concern.
Are VFX vendors themselves worried? Not at all – at the time of writing (September 2022), they're far too busy. For the past 18 months, they’ve been drowning in unprecedented demand for VFX. Their biggest worry is finding enough skilled people to execute all the work. Clients are having a hard time finding available capacity with vendors, even for prestigious projects that these same vendors would have fought over in 2020.
The huge spike in demand for VFX after the COVID-19 pandemic is driven by an unprecedented appetite for original content on behalf of Netflix and other big streamers. Netflix and their competitors all need to secure enough VFX production capacity to realize their larger creative ambitions. Plus time is of the essence -- Netflix is in a “content arms race” with Amazon, Apple, Disney, and others. Right now, the best way for Netflix to secure VFX production capacity is to own it.
History Repeating Itself
Most people think of the major Hollywood studios as companies that produce movies. Warner Bros. produces Batman movies. Disney produced Aladdin and Frozen. If you’re familiar with a little bit of Hollywood history, though, you’ll know that they’d prefer not to.
Prior to 1948, the Hollywood studios were vertically integrated across motion picture production, distribution, and exhibition. The most lucrative piece was distribution. They also owned their own theater chains, but this practice fell afoul of US anti-trust law and they were forced to sell them off.
Why were the Hollywood studios in the business of producing motion pictures, though? Because they needed enough high-quality product with mass appeal to feed their distribution chains. The most reliable way for them to get that was to control production.
Production is risky. Each movie is a unique product that relies on a certain amount of alchemy during production to come to life. If the Hollywood studios could buy enough finished motion pictures from independent producers to meet their needs without funding production, they probably would.
Netflix isn’t going into the VFX production business for the sake of it. They simply want to hold on to the resources they need to stay at the forefront of the content arms race. What now?
Insourcing VFX Doesn't Work
For the longest time, Sony Pictures Imageworks was the only prominent example of a major VFX vendor owned by a Hollywood studio. Then Disney acquired ILM when they bought Lucasfilm in 2012. ILM was the key VFX provider for Lucasfilm, and now Disney, to produce Star Wars content. While it makes sense that Disney hasn’t sold or shut down ILM, it’s doubtful they would have seen a need to own ILM separately from Lucasfilm.
Paramount had an internal VFX group sometime prior to 2010. The studio has always worked extensively with VFX vendors, but they must have decided to experiment with bringing VFX production in-house. Anecdotally, I’ve heard Paramount expected the VFX division to be a standalone profit center for them, like any other Paramount division. They soon shut it down for failing to meet financial targets.
Creative services simply aren’t part of a Hollywood studio’s core business model. If, as Paramount apparently did, you expect a VFX services firm to carry the divisional overhead of a major studio while providing cost-effective VFX work to your own productions, you’re going to be sorely disappointed.
Studios also give filmmakers a lot of freedom to choose which VFX vendors they work with. If Michael Bay wants to do another Transformers movie with ILM, Paramount isn’t going to tell him he can’t just because ILM is owned by Disney. And Disney isn’t going to complain about ILM having that work just because it’s coming from Paramount. Netflix says Scanline "will continue to operate as a standalone business and work with their variety of clients.... We’ll also continue to rely on many other [VFX] studios around the world for our VFX needs". (source)
VFX work is VFX work, after all.
For investors eyeing VFX companies, Netflix’ acquisition of Scanline and Animal Logic is a good sign -- it indicates so much global demand that Netflix felt they needed to acquire a couple of suppliers to secure production capacity. A more pertinent question for investors is how industry dynamics will change when supply eventually catches up with demand. When that happens, VFX vendors, independent or otherwise, can expect to face stiffer competition to win work in the future.
