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Dreamworks Animation CEO Jeffrey Katzenberg called the latest 3D movie technology "the greatest innovation to occur in the movie business in 70 years." A bevy of theater chains -- including AMC, Regal, Carmike and Cinemark, among others -- are exploring or installing digital cinema and 3D systems in the second half of 2008 into 2009. And Intel and others are creating tools for companies like Dreamworks to make a new generation of 3D animation films. Experts at Wharton say 3D movies are back in vogue, but it's unclear whether the latest greatest technology can give theaters a sustainable competitive advantage over other forms of entertainment.

Movie theaters are installing 3D projection technology and digital cinema systems which streamline movie distribution by using digital media or satellites instead of expensive reels of film to deliver movies to theaters. Progress has been spotty, however, and executives like Katzenberg have said there's a need for more outlets for 3D movies.

Three-dimensional technology -- the ability to add the appearance of depth to a flat image, typically when viewed through special viewing glasses -- has been the movie industry's answer to outside competition on and off for more than 50 years. Scott Kirsner, author of Inventing the Movies, says 3D first became popular in the 1950s. Why? The movies needed a competitive advantage over television, then an upstart technology. Kirsner adds that the movie industry is in a similar situation today as it tries to fend off encroachment from home theater systems. For the next five years, he says, "you'll have to go to the theater" to see movies in 3D. Even though the 3D fad in the 1950s died quickly, Kirsner is more optimistic regarding the current generation of 3D movie technology. "The technology is better this time around," explains Kirsner.

Katzenberg, whose company has partnered with Intel to develop 3D moviemaking technology, is certainly an evangelist for the next generation of films. Last month, at Intel's Developer Forum in San Francisco, Katzenberg predicted that 3D "will reinvent, redefine and completely transform not only how we make movies, but even more excitingly, how audiences experience them." Katzenberg likened the latest 3D technology to the third revolution in movie making. First, movies transitioned from silence to sound followed by the move from black-and-white to color. Katzenberg argues that 3D will be the third revolution. "This is not your father's 3D," said Katzenberg, adding that  the latest technology will make the audience feel like "they are leaping buildings with Spiderman." Unlike the red-and-blue cardboard glasses common in the 1950s, the newfangled 3D viewing glasses use polarized lenses, and Katzenberg says the consumer "won't feel like a dweeb" wearing them.

Experts at Wharton say there's a lot riding on whether Katzenberg is correct. If he is, movie theaters may be able to use 3D technology to stay relevant at a time when consumers have multiple entertainment options. "This is really about staying competitive with the home viewing experience," says Kendall Whitehouse, senior director of IT at Wharton. "The threat is the home theater. There used to be huge differences between watching TV at home and seeing a movie in a theater. There still are differences, but the gap is closing. What was once a dramatic difference in image and audio quality has become much smaller."

Can 3D widen that technology gap again for movie theaters? "If it is possible to do 3D in a theater and not at home, then theater becomes differentiated," says Eric Clemons, an operations and information management professor at Wharton. "And if the experience is considered demonstrably better by consumers, then movie theaters are not just different from the TV and DVD experience, but superior to it. That potentially eliminates the erosion of ticket sales to alternative media."

However, questions about the future of 3D in movie theaters abound. Will theaters switch to digital cinema and 3D cinemas fast enough? How will theaters and movie studios share the burden of the capital expense required for new technology? And how soon will 3D technology make it to the home and negate any advantage previously offered by movie theaters?

Movie Theaters Go Digital ... Slowly

Jehoshua Eliashberg, a marketing professor at Wharton, and Daniel Levinthal, a management professor, question whether the movie industry is progressing fast enough to roll out the digital cinema systems necessary to move to 3D and beyond. "3D is a step in the right direction, but it isn't enough," says Eliashberg.

Eliashberg considers 3D technology to be a mere complement to digital cinema technology, which would represent an upgrade to the way films are distributed today. "In a broader context, 3D is an add-on to digital cinema. Digital projection is more fundamental. How quickly digital cinema penetrates theaters will determine how successful 3D becomes," says Eliashberg.

According to the National Association of Theater Owners, a Washington, D.C.-based trade group, there are 38,000 movie screens in the U.S. with an estimated 5,000 of them equipped with digital cinema technology.

Digital cinema technology allows theaters to show movies on the big screen based on digital media rather than reels of photographic film. For the studios, digital movie distribution is less expensive because there's no need to print and transport reels of film. With digital technology, studios can distribute movies via satellite or digital media such as computer hard drives. Eliashberg says the savings from digital conversion should make the capital spending easier to swallow.

Despite those potential efficiencies, the move to digital cinema technology has hit speed bumps as studios and theaters bicker over who should foot the bill for the installation of the new digital systems. Other hurdles to the implementation of digital theater systems are standards for digital projection technology and usage fees among content creators, studios and theaters. Katzenberg acknowledged on Dreamworks' earnings conference call that "3D and digital screen conversion is not taking place as rapidly as we had hoped." Movie studios, which are planning a full release schedule of 3D movies, are hoping theaters can install enough digital systems before the studios' films are released.

"There's an interesting contrast behind the slow move to digital systems," explains Levinthal. "Theaters don't want to put up capital costs for new equipment. For distributors, moving to digital affects costs, but doesn't increase revenue. From a systems point of view, it makes sense to go digital because there are unambiguous cost savings [for both sides]."

The logjam between studios and theaters appears to be breaking, however. The Wall Street Journal reported on October 1 that Lion's Gate Entertainment would join four other studios in a joint venture led by theater owners to share digital conversion costs. The joint venture, Digital Cinema Implementation Partners (DCIP), owned by AMC, Regal and Cinemark Holdings, had previously announced that it was working with Paramount Pictures, Twentieth Century Fox, Universal Pictures and Walt Disney to find the most effective way to create a digital distribution system to go with technology being installed today. DCIP represents 14,000 screens. 

Individual theaters are upgrading to digital projection technology, but progress has been spotty. Experts at Wharton note that the DCIP is large enough to start a groundswell of digital conversions if it can reach deals with the major studios.

Alan Stock, CEO of Cinemark, said August 8 on an earnings conference call that DCIP had signed a digital deployment agreement with a major studio. Reuters had reported in July that DCIP's deal was with News Corp.'s Twentieth Century Fox, which has not confirmed such an agreement. The Wall Street Journal reported on Sept. 8 that DCIP reached deals with Universal and Disney. Stock added that DCIP's deal with one major studio could lead to others. "DCIP achieved its first concrete step towards completion with the signing of a digital deployment agreement with a major studio," said Stock. "This should get the ball rolling for additional studios. Once these agreements have been finalized, DCIP can start moving ahead with securing the necessary financing. While the credit markets are certainly more challenging today than when DCIP was formed, we continue to feel confident that they will be able to secure financing. If everything goes as planned, we expect to be able to begin our digital and 3D rollout around the year-end."

Is 3D a Sustainable Edge?

As these new digital cinema systems and 3D movies hit the theaters, one question remains: Will 3D movies give theaters a permanent technology edge?

For now, it is clear 3D movies are an audience draw. On Carmike Cinemas' second quarter earnings call August 11, CEO Michael Patrick said the company showed Journey to the Center of the Earth in 3D on 327 screens and generated five times the per-screen revenue compared to regular films. Patrick also reported that "we experienced no customer push-back from our $2 3D surcharge."

Patrick added that Carmike is currently evaluating whether to install another 100 3D projection units. "The current units have the newest technology, allowing us to offer the 3D experience in our largest auditoriums, an ability we could not offer at the time we rolled out our 3D program in the last two years," said Patrick, who noted that there are 23 3D movies expected through 2010 as of August 15.

That continuing stream of movies will be critical to determining 3D's success. Dreamworks Animation is committed to putting all of its future films in 3D starting with the March 2009 release of Monsters vs. Aliens, but Levinthal says that it's unclear whether there will be enough films taking advantage of new technologies. Will dramas, comedies and documentaries follow animated and action movies to 3D?

Eliashberg agrees that content remains the wild card. If movie studios don't get enough content to take advantage of new technologies, the upfront capital spending won't pay off. "The biggest threat is supply of good movies," says Eliashberg, noting that Warner Brothers recently announced it was cutting its slate of planned movies to focus on films based on its comic book characters, such as Superman and Batman.

Meanwhile, it's still unclear whether 3D technology is just a gimmick or the beginning of a mainstream trend. Whitehouse points out that many innovations in cinema technology are initially exploited as gimmicks. Some, like Smell-O-Vision and AromaRama, which dispersed scents into the theater, quickly fade. But others live on past the gimmick phase to become a standard part of the movie viewing experience. As an example of the latter, Whitehouse cites Sensurround, which used powerful low-frequency speakers to add ground-shaking effects to movies like 1974's Earthquake. While Sensurround came and went, slightly less intense low-frequency subwoofers became a standard component of multi-channel theatrical sound systems and home theater systems.

Whitehouse stresses that 3D similarly needs to advance beyond the gimmick stage. "We need to move beyond jutting objects off the screen at the audience and use depth as a natural component of the world on screen," he says. Critics such as Roger Ebert have panned 3D technology because they feel it diminishes the story telling in favor of special effects.

Clemons adds that 3D can detract from the movie-going experience. For 3D movies to be much better than alternatives, it "requires that the 3D experience does not eliminate the joys of sharing. Going to the movies can be a social experience, but not if you are in a 3D headset that eliminates interaction with people around you."

The Future: Beyond Just Movies

Perhaps the biggest question about 3D's effect on movie theaters revolves around how soon 3D may be available for home theater systems. Indeed, Intel's partnership with DreamWorks focuses on taking 3D technology into new markets. While Intel's efforts are still in the early stages, experts at Wharton say it's just a matter of time before 3D goes beyond the movie theater to home theater systems.

If 3D isn't the Holy Grail for movie theaters, what is? Eliashberg says theater owners should think of themselves more as entertainment facilities where movies are just part of the value proposition. If a night out includes a dinner and a movie, why not have both in the same facility? Just as Las Vegas morphed from a gambling destination to an entertainment center, so can movie theaters adopt a broader role, he suggests. "Theaters need to evolve from film facilities to entertainment facilities. There has to be other activities beyond just going to the movies." 

Eliashberg also added that cinemas could also improve customer targeting. For instance, 3D movies may not work in all theaters because the demographics may not support it. Will a retirement community go to see the latest animated film in 3D? "The promise of digital cinema could be to get the right movie to the right audience. The movie industry is not custom designing movies to clientele," says Eliashberg. "Exhibitors can have all the technology and gizmos, but they increasingly have to act as retailers and make sure their offering is in line with the clientele. 3D is just one part of the equation."

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