Case Huayi Brothers: Strategic transformation

CASE 12
12 By Professors Jie Li and Jean-Louis Schaan

I n March 2015, Huayi Brothers Media

Corporation (Huayi) was China’s most influential
entertainment company with 2014 revenues of close
to ¥2.4 billion.1 Founded in 1994 by brothers Dennis,
(chairman and chief executive officer (CEO)) and
James (president) Wang, the company’s historic roots
were in movie production as the owner, producer and
distributor of some of China’s most popular film and
television (TV) productions, including “Cell Phone,”
“Assembly” and “Aftershock.” In recent years, in an
effort to leverage its movie content and copyrights,
Huayi had also expanded into developing and
distributing mobile games and building entertainment
theme parks in Asia.
Huayi considered forging a partnership with
Hollywood’s STX Entertainment to jointly invest
in and co-produce 18 films and distribute them
worldwide by December 31, 2017. Huayi would
share in the global revenue from the cooperatively
produced films and have distribution rights for
Greater China (mainland China, Hong Kong,
Macau, Taiwan and Singapore). The impending
move would represent a significant step in its
growth towards internationalization and leveraging
its proprietary content globally across all areas of
the entertainment sector—visual entertainment, the
Internet and gaming. However, some in the industry
were skeptical that Huayi could succeed after three
previous failed attempts with other US companies.
The past failures were attributed to Chairman Dennis
Wang’s overly cautious nature and desire to have
controlling interest.
The Huayi chairman wondered how to best grow
his film and entertainment company internationally.
Should the company enter into partnership with STX
or not? If yes, what was the best strategy to move
forward with the impending partnership and grow
internationally outside of China?
The film and entertainment
industry in China
The Chinese film and entertainment industry had
come a long way since 2004 from a full state
monopoly to a small number of large, highly visible
private media conglomerates with the size, strength
and commercial success to rival Hollywood. It
primarily consisted of producers and distributors of
a range of entertainment formats, such as movies
and music. The industry had experienced sustainable
growth over the 2004 to 2014 period and continued
to show strong upside potential in the medium term.
In 2014, the industry posted revenues of $4,878.3
million, representing a compound annual growth
rate (CAGR) of 30.3 per cent between 2010 and
2014. This number was forecast to decelerate to 18.6
per cent over 2014 to 2019, to a value of $11,449.7
million by the end of 2019.2
The media industry in China as a whole, which
included advertising, broadcasting and cable TV,
publishing, movies and entertainment, grew by
7.3 per cent with $90.4 billion in revenues and was
expected to reach $162.1 billion by the end of 2019,
or an anticipated CAGR of 18.6 per cent over 2014
to 2019. 3 The film, Internet and mobile gaming
segments represented the most lucrative segments of
the Chinese entertainment industry. The film sector
alone accounted for 94.6 per cent of the market’s
overall value. China’s box office was roughly

Professors Jie Li (Antai College of Economics & Management, Shanghai Jiao Tong University) and Jean-Louis Schaan wrote this case solely to
provide material for class discussion. The authors do not intend to illustrate either effective or ineffective handling of a managerial situation. The
authors may have disguised certain names and other identifying information to protect confidentiality.
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Copyright © 2015, Antai College of Economics and Management and Ivey Business School Foundation Version: 2018-03-06

815
816 SECTION V CASES
10 per cent of global box office revenues. 4 The value
of China’s box office was expected to surpass that of
the United States by 2019.5
Key growth drivers
The ex plosive gr owt h in Chi na’s fil m a nd
entertainment market was driven by three key
factors: growing disposable income per capita,
which reached ¥28,844 in 20146 from ¥11,759.5 in
2006;7 broad-based government support in the form
of training and financial subsidies; and the expanded
wireless broadband access, which facilitated new
media adoption. The immense size and diversity of
the Chinese market also created substantial room
for differentiation in terms of genre and content.
Entertainment companies had been more inclined to
focus on more mature markets in China’s high tier
coastal cities due to their higher rates of technology
adoption and stronger receptiveness to foreign
culture. However, many were seeking new ways to
reach lower tier cities in the more inland regions
where entertainment spending was growing most
rapidly. Despite the Chinese government’s quotas,
imported foreign films, with box office revenues
exceeding ¥13.2 billion in 2014, up by 51.9
per cent from 2013, accounted for a significant
fraction of overall demand. In order to alleviate
domestic competitive pressures, Chinese companies
sought to diversify their customer base by exporting
movies (2.7 per cent of total industry revenue in
2014, or $156.9 million).8
Industry characteristics
The Chinese film and entertainment industry
was fraught with high risks and uncertainty, with
competing yet complementary relationships between
a small number of state and privately run media
conglomerates. There was intense rivalry between
private players, particularly large companies. In
2015, China Film Group Corporation (government-
owned), Bona Film Group, Huayi and Beijing
Enlight Group accounted for 47.7 per cent of total
industry revenue. 9 They operated under similar
business models while competing across broad
swaths of the media sector including movies, music,
the Internet and TV.
Companies competed aggressively in the
distribution of creative content and constantly sought
to strengthen their commercial horsepower to reach
a wider set of audiences. Due to the importance of
commercialization in the industry, film production
in China was widely construed as a component of
the overall commercial production chain rather than
a creative endeavour in its own right. In most cases,
box office receipts only accounted for a moderate
fraction of total income, with the remainder coming
from commercial spinoffs such as advertising and
merchandising. The drive towards maximizing
the reach and impact through novel and profitable
distribution channels pushed large industry players
towards vertical and horizontal integration. The
industry began merging film production and
distribution and intensifying its access to various
commercial channels including TV production, TV
channel management, audio/video (especially DVD)
production, talent management and advertising.
There was significant competition in the pre-
production phase for financial capital and talent
(particularly for renowned film directors and movie
actors, important sources of differentiation).
The concentration of profits to just the few
largest players was attributed to the high capital
requirements of commercial big budget films, which
still remained the most profitable type of film project.
Only the largest players with deep experience in the
industry were able to amass the requisite level of
capital, use their brand reputation to attract top-notch
talent and adapt to the rapid pace of technological
change. In contrast, small to medium-sized firms,
which composed the majority of industry players,
lacked the advantages of scale and were limited to
producing one to two budget films a year. Despite the
promises of technological advancements and mobile
platforms, which would encourage new entrants into
the industry, the industry concentration was expected
to intensify as major companies continued to gain in
scale to feed larger production budgets and produce
higher quality movies to cater to an international
audience.
Major industry trends
Intra- and international growth The Chinese
entertainment industry was positioned to trend in
two directions. On the one hand, the presence of
companies in Hong Kong, Taiwan and (South) Korea
that were already in the co-production business
with China were expected to continue to support a
booming regional film market. On the other hand, the
industry was becoming a major recipient and source
of foreign direct investment. This was evidenced
by the fact that several notable US companies such
 CASE 12 HUAYI BROTHERS: STRATEGIC TRANSFORMATION
as Warner Bros. Entertainment and DreamWorks
Animation had recently forged joint ventures (JVs)
with major Chinese media companies to distribute
and produce content in China.10 Foreign filmmakers
benefited from co-producing as opposed to importing
films as it allowed them to retain a much larger share
of box office profits.
The deals were also increasingly going in the
other direction. The formation of co-production
agreements with US companies had been popular with
the Chinese as it facilitated the transmission of film
production expertise and market know-how from their
more experienced US counterparts and supported the
broader objective of raising China’s cultural profile
internationally. In 2012, Wanda Group bought AMC
(a US theatre chain); 11 in 2014, Tencent entered
an exclusive partnership with HBO 12 for China
distribution and Hony Capital invested in STX; 13
and in 2015, Hunan TV partnered with Lions Gate
Entertainment,14 DMG Entertainment partnered with
Valiant Comics15 and Fosun partnered with Studio 8.16
Rise of mobility The convergence of mobile
and media in China was rapidly accelerating. The
Chinese market had grown immensely in both
scale and technological sophistication. Despite low
Internet penetration by developed country standards,
the Chinese were avid digital consumers and led the
world in many areas of technology adoption, mobile
device usage and percentage of homes with smart
TVs.17 On-demand streaming video was a proven and
robust distribution model in the country—according
to China Internet Network Information Center, more
than 461 million people in China streamed videos
online.18
Many entertainment companies were entering
the mobile space as it not only provided a lucrative
distribution channel for content, but also enabled
the delivery of a wider range of entertainment
formats, such as online gaming, social networks
and learning. As the shift of media consumption
to online accelerated, TV and film companies that
lacked a digital distribution platform could run
a substantial risk of being edged out by mobile
substitutes. Many large Internet companies such as
Alibaba, Baidu and Tencent had taken advantage of
shifting trends towards online media consumption
by establishing film and production departments and
making strategic acquisitions. These companies had
relied on advertising as their main source of revenue
but were pursuing new monetization models to offer
differentiated value.
817
Two main factors drove the continual rise of
mobility in the entertainment industry. First was
the sizable number of young, affluent and well-
educated consumers as a share of all Chinese media
consumers. In 2014, 87 per cent of China’s film
audiences were between the ages of 19 and 40, and
50 per cent were aged from 19 to 30.19 The lower
costs of distribution through online platforms also
encouraged the entry of new content creators. This
was particularly true of producers of independent
niche films, an increasingly popular film genre among
young moviegoers. Another important catalyst of
this trend was the improvement of China’s network
infrastructure towards a wider reach, expanded
capabilities and faster speed. The government’s plan
to modernize its infrastructure entailed the merger of
telecom, broadcast and Internet on a single platform
to deliver voice, data and video content. According
to one estimate, this was slated to create $250
billion in demand for entertainment content such
as TV Internet subscription, video on demand and
interactive services.20
Public private partnerships While the Chinese
entertainment industry looked vastly different than
what it had been under state monopoly just a few
decades earlier, the government continued to wield
control through several policy levers. Consequently,
private companies still found it beneficial to retain
political and social capital in the government,
particularly when navigating stringent Chinese
censorship laws. Recognizing their common interest
in leveraging media to maximize China’s global
influence, the state and private sector had reshaped
their interaction from one that had been top-down
in structure to mutually beneficial partnerships. For
instance, the state had committed to improve access
to financing through its state-run banks, created
private equity funds dedicated to the cultural sector
and even loosened restrictions on foreign capital
inflows into the entertainment industry.21
Wanda Dalian, the world’s largest owner of
theatre chains, recently partnered with a municipal
government to construct a production facility that
aspired to be the “Hollywood of China.”22
Huayi’s strategic evolution and
diversification
Huayi was created by brothers Wang Zhongjun
(Dennis Wang) and Wang Zhonglei (James Wang)
in 1994 when they founded the Huayi Advertising
818 SECTION V CASES
Company in Beijing. Within four years, the brothers
had developed a successful advertising business
and were intrigued by the prospects offered by the
emerging Chinese film industry. The firm was one
of the early entrants in the industry when in 1998 it
produced a TV series that it sold through an innovative
mechanism. Because China’s TV stations were state-
owned enterprises, they were not allowed to negotiate
cash payment for the series. Payment was made in the
form of advertising that Huayi sold to its clients, the
proceeds of which helped finance its next productions.
Building on successful box office productions,
in 2000 Huayi formed a 50–50 JV with Taihe Film
Investment Co. (Taihe). Over time, this arrangement
showed strains in decision making, so Huayi bought
enough of Taihe’s shares to take a majority stake
in the JV. With greater control, Huayi was able to
engage in film co-production with Columbia Pictures
Corp. Through this collaboration and the ensuing
opportunity for brand marketing, Huayi became a
bona fide film production company in China. But
by 2004, disagreements among the partners about
distribution of benefits ended the collaboration.
Huayi continued on its successful trajectory with
hits such as “A World of Thieves” and continued
to attract investors. TOM Group helped the Wang
brothers buy back the 45 per cent of the equity
still owned by Taihe, bringing the Huayi brothers’
ownership to 70 per cent. In 2005, Dennis Wang
sold 15 per cent of Huayi to Jack Ma, chairman of
Alibaba, and bought back 20 per cent of TOM’s
shares.
The year 2005 was a defining one for the company,
as it did not release any movies. One of the reasons
was that Huayi’s star director, Feng Xiaogang, was
shooting “The Banquet,” a blockbuster that required
more than a year to complete. Confronted with the
financial risk inherent to the industry, management
decided to expand its Visual Entertainment division
into TV drama production and talent management.
Huayi also diversified further by moving in two new
directions—one was the tourist and entertainment
property business, the other was exploring the Internet
for distribution and games. Huayi was no longer
satisfied to be just a creative studio. It was the first
time the company thought about developing a future
growth strategy to look for crossover opportunities.
Said Chief Financial Officer (CFO) Brenda Hu:
We wanted to bring together different fields
which used to be separated and try to integrate
them. For example, we are trying to bring a film
marketing company together with mobile app
developers. Put these two teams together so they
can do more film distribution on the Internet. For
us, it is not innovation, it is not high technology.
We are trying to bring together people who used
to be separated, couldn’t understand each other,
and encourage them to create working platform
across products and channels.
Generations born in the 1990s, now in their 20s,
who had grown up on mobile devices, were not big
consumers of newspapers, magazines or even TV.
The convergence between movies, games and talent
on the Internet—and how to best capture revenue
from the interaction between these products—was
the company’s biggest challenge. Huayi started
exploring and developing different celebrity
promotional products to build a social networking
presence over the next five to 10 years. An online
ticketing company was also started to capture revenue
from consumer transactions. However, pinpointing
which new venture deserved the company’s greatest
attention was unclear. Said Dennis Wang:
There are lots of uncertainties in China’s
entertainment industry. You can think five years
ahead, but it would be hard to predict [what the
future will look like in] 10 years as there may
be transformative changes in this industry. In
the past five years, we’ve focused on our core
business—Visual Entertainment. However, I
would like Huayi to go international in the future.
Huayi became China’s first official “movie stock”
when it went public on October 30, 2009 on the
Growth Enterprise Market of the Shenzhen Stock
Exchange. The company made world news when its
stock closing price of ¥70.81 more than doubled its
initial public offering (IPO) opening price. Huayi
raised ¥1.2 billion. Dennis Wang’s 26 per cent
share in the company put him on Forbes China’s
“Rich List”—he was ranked at 142 in 2013, with an
estimated wealth of $1.1 billion.23
With a stronger financial position and facing
increasing competition and risks, Dennis Wang and
his team explored a number of potential business
models including Warner Brothers and Disney. Profit-
hungry investors had recently begun to swarm film and
TV production, where large Internet companies such
as Baidu, Alibaba and Tencent had set up film and
production departments. In 2005, about 100 movie
investors were in operation, whereas in 2015 there
were more than 1500.24 With increasing competition
 CASE 12 HUAYI BROTHERS: STRATEGIC TRANSFORMATION
on the content side of the entertainment business in
China, Huayi looked for an opportunity to expand
on the channel side in order to monetize its content.
By 2015, the company was invested in three major
businesses: Visual Entertainment, which represented
50 per cent of revenues; Live Entertainment,
20 per cent; and Internet Entertainment, 30 per cent
The three businesses contributed almost equally to
profits. Each is further summarized below.
Visual Entertainment
This business included films, TV shows, talent
management, Music, cinemas and entertainment
marketing. Huayi was the owner, producer and
distributor of some of China’s most popular film
and TV productions. It had established its brand for
high-quality commercial entertainment. Many of its
films were recognized at prestigious events such as
the Hong Kong Film Awards, the Golden Horseshoe
Awards, the Huabiao Awards, the Golden Rooster and
Hundred Flowers Awards. The company’s primary
focus on content generation differentiated it as China’s
most original TV and film industry brand, with
the nation’s largest and most varied entertainment
portfolio. Its business vision was to become Asia’s
largest integrated entertainment group and generate
greater global respect for China through film.
Visual Entertainment, including film, TV drama,
music, cinemas, a talent agency brokerage and other
related businesses, had been the company’s major
source of operations revenue and profit since its launch
in 1998. In 2012, box office receipts exceeded ¥100
million and had combined revenue of approximately
¥2.1 billion, setting a record that year for privately
owned film production. By 2013, box office revenues
were in excess of ¥$3 billion and by 2015 accounted
for 15 per cent of the domestic market share and 25
to 30 per cent of the market share for Chinese-made
films. At the beginning of 2015, Huayi had produced
75 films with total box office receipts of ¥9.2 billion.
Plans for 2014/15 were to produce 32 films, with a
box office target of ¥10 billion.
Huayi’s move towards diversification began in
2000. The company launched an entertainment talent
brokerage and quickly grew to represent 300 artists,
100 of whom were considered “A list” emerging
stars in movies, TV and music, making it China’s
leading talent agency. A music division followed in
2004, covering artist packaging, album production,
music videos, concerts and live performance events.
In 2005, Huayi started its TV division. Within the
819
first 10 years, it grew to second in terms of national
market share, generating revenues of ¥518 million in
2013. Its TV shows totaled 700 episodes, amounting
to 600 hours of on-air programming each year, with
such titles as “My Son is Wonderful,” “Husband and
Wife” and “Without Thieves.” By the end of 2011, the
company had developed a sophisticated production
studio network of 12 studios. The company also built
and operated 15 cinemas in major urban centres such
as Beijing, Shanghai and Shenzhen.
Live Entertainment
The second business included film towns, cultural
parks and movie theme parks. In 2011, Huayi
announced plans to develop nearly 20 small live
entertainment film towns (themed real estate)
nationwide by the end of the decade. Modeled
after Disney, the towns were designed to “bring
memories and the silver screen to life” through
recreating familiar scenes from the company’s most
popular movies as a backdrop for commercial shops,
restaurants and hotels. The company’s location-based
entertainment (LBE) business model was to work
with developers who bore the financial responsibility
for planning and constructing the properties. Huayi
then shared in the profits by collecting licensing
fees. Said Dennis Wang: “Right now, all big cities
in China look very much alike. But if we can build
a movie commune near Beijing, or recreate a small
town of 100 years ago, young people will love it.”
The first of three, which opened in 2013, was the
“Huayi Brothers Culture City,” a ¥$1 billion ($152
million) fully functional indoor studio complex in
Shanghai, incorporating studio tours and rides. It was
followed by “Huayi Brothers Movie World,” a major
theme park initiative focusing exclusively on Huayi
film content. The third “Huayi Brothers Film Studio”
opened in the Shanghai suburb of Suzhou in June
2014. It featured backdrops from the movies “Back
to 1942,” “Aftershock” and “If You Are the One” and
received more than 10,000 visitors on its first day. The
fourth, “Feng Xiaogang’s Movie Commune,” named
after Huayi’s famous director, opened in spring 2015 in
Haikou, the capital city of Hainan Province. Said Hu:
It works out very well. Tourists and consumers
like sound stages because it makes them
feel very close to the movie industry and to
celebrities. We can attract both tourists and
also retailers. And also, the construction is
very quick. It’s not the same kind of theme park
820 SECTION V CASES
as Disneyland or Universal Studios, but I think
it will work out better here in China. We can
expand very quickly.
Internet Entertainment
The third business included games, new media, fan
economy and online distribution. In an effort to
break down the boundaries between film and other
potential media revenue streams, Huayi became
the first company in the industry to venture into
the mobile games business. Many Chinese people
accessed entertainment content via their cell phones
or tablets, and the company recognized the need to
expand its presence in mobile. Visual Entertainment
was still the company’s main source of content and
revenue, but games were similar to films in terms of
content creation and generating integration potential.
The vision was to turn mobile games into films, and
vice versa.
In 2010, the company invested ¥149 million to
purchase 22 per cent of the shares of mobile game
company Ourpalm, becoming its second largest
shareholder. In May 2012, Ourpalm went public as
the first listed company in mobile gaming, and stock
held by Huayi reached the value of ¥1.5 billion. In
the same year, in order to expand its presence in
the gaming sector, Huayi invested ¥70 million to
purchase 51 per cent of the stock of Giant Interactive
Group and set up Huayi Giant Company to step into
client-end gaming. However, the acquisition turned
out to be unsuccessful as the new company failed to
meet its profit goal.
In 2013, Huayi spent ¥670 million on the purchase
of 50.88 per cent of the stock of Yinhan Technology
(Yinhan), becoming its controlling shareholder. The
two companies’ corporate cultures were a good
match, and they worked together to coordinate on
celebrity endorsements, movie marketing and other
businesses. Yinhan’s “Space Hunter” was the first
domestic mobile game with monthly turnover of
over ¥100 million, while another game, “Shenmo,”
launched in November 2013, reached a monthly
turnover of ¥50 million. Within just the first half of
2014, Yinhan games had achieved a turnover of ¥800
million. These numbers surpassed Chairman Wang’s
most optimistic expectations.
In the first quarter of 2015, Huayi’s Internet
Entertainment generated more than ¥410 million,
accounting for 66.65 per cent of total revenue. The
division accounted for the biggest portion of the
company’s first-quarter revenue and was also the
fastest growing. Revenue from Internet Entertainment
in the first half of 2015 was expected to be close to
that of Visual Entertainment.
Internationalization
During the first three quarters of 2014, the rapid
growth of Huayi’s Internet Entertainment revenues
helped cushion a steep drop in the company’s Visual
Entertainment revenues by 75 per cent. During that
year, Huayi released only six films and did not have a
major blockbuster. It was the first time the company’s
core revenue stream had declined considerably in
almost 10 years. Such was not the case, however,
with the health of China’s overall film industry.
While film revenues inched up globally by only 1
per cent in 2014, in China they increased 34 per cent,
to $4.8 billion, a global box office record, according
to the Motion Picture Association of America. In
2013 alone, China added more movie screens than
the total for France.25
There was indeed promising box office potential
at home, but it still relied heavily on acquiring
much needed and missing talent—not just movie
stars, but experienced directors, producers and
distributors. After many years of state ownership,
China’s independent film industry was still relatively
in its infancy, only 10 to 15 years old. Huayi needed
to look further afield and leverage the much more
experienced, mature US talent pool in Hollywood to
make its movie magic.
Dennis Wang began to search for international
investment opportunities, particularly in Hollywood
but also Europe, to collaborate on the financing,
production and distribution of movies on a global
scale. The aim was primarily to find solid US
partners with strong production capabilities who
were looking to establish a foothold to distribute
films in the growing Chinese market. Huayi would
invest and participate in co-producing US films and
handle marketing and distribution in China. Said
Dennis Wang: “I think the basic philosophy we had
in going to Hollywood and Europe is that we wanted
to [access] their product, their technology or their
know-how and pull it in to China. We’re not trying to
sell in those foreign markets, because we feel it’s not
realistic. That takes time.”
Huayi started its Hollywood journey by co-
financing movies. However, the move towards greater
internationalization was not without its challenges
and false starts. A first attempt at partnering with
 CASE 12 HUAYI BROTHERS: STRATEGIC TRANSFORMATION
Legendary Entertainment fell through in 2013. In
2014, the company pulled out of talks with Lions
Gate Entertainment when it announced that it had
agreed to invest as much as $150 million in Studio 8,
the production company launched by former Warner
Brothers executive Jeff Robinov. But the partnership
never materialized because Dennis Wang decided
at the eleventh hour to terminate negotiations. In
all three cases, termination was motivated by a
cautious approach to investment. The Shanghai-based
conglomerate Fosun International later signed a deal
to invest in Robinov’s company, while Lions Gate
entered into a partnership with Hunan TV.26
In 2014, the company changed its approach and
invested $130 million to establish a wholly owned
US subsidiary to produce and distribute movies and
TV shows. Said Dennis Wang: “I think in the future,
if we find the right target . . . we would like to have
a controlling stake. We would control the operation,
and we would prefer to have the management team
have a minority interest in the business.” That same
year he found a new possibility: Hollywood’s recent
upstart, STX Entertainment (STX).
The STX deal
Founded in spring 2014, Burbank-based STX was a
fully integrated film and TV company specializing
in producing, marketing and distributing film, TV
and digital content. The company was financially
backed by private investment firm TPG Capital,
which managed $65 billion in assets and produced
films with low- to mid-level budgets of $20 million
to $60 million. Other investors included Chinese
private equity company Hony Capital, hedge fund
SeerCapital, Gigi Pritzker, JPMorgan Chase and
Bank of America, Merrill Lynch. 27 Recent movie
credits included such well-known titles as “The
Wedding Singer” and “Happy Gilmore.” Its output
was limited to eight to 10 films per year. Led by Bob
Simonds, STX rapidly attracted a wealth of elite talent
from Disney, Warner Brothers, Sony, Universal, Fox,
Metro-Goldwyn-Mayer, DreamWorks, Paramount
and DreamWorks Animation. It was dedicated to
creating high-quality mainstream commercial films
(low and medium budget) for global audiences. The
goal of the company was to become a major studio
and compete with Sony and Universal. Simonds was
convinced that if he wanted to succeed in this regard
he needed to have a China strategy.
821
STX had avoided the traditional distribution
process and signed direct long-term distribution
agreements with the four largest theatre chains
in the United States, i.e., Regal Cinemas, AMC,
Cinemark and Carmike. In January 2015, the
company also signed an exclusive agreement with
Showtime Networks, under which it was allowed
to exclusively exhibit all films distributed in
theatre chains on channels including Showtime,
Flix and The Movie Channel. The company was
also rapidly expanding into digital production,
distribution and the mobile game business and
was the first mainstream film and TV company in
Hollywood to have such a broad presence in nearly
20 years.
If Huayi and STX proceeded with the proposed
partnership, both parties would jointly invest in,
shoot and distribute no fewer than 18 cooperative
films internationally over the next three years. This
was the first time that a Chinese company would
participate in all activities in the value chain from
production to marketing and distribution. Although
the specific financial terms of the deal were not made
public, the new arrangement would enable STX to
spend approximately $1 billion each year producing
and distributing its films through 2017 and give the
company a foothold in China’s rapidly growing film
market.
In return, the deal would help Huayi promote
its brand globally, obtain access to the Hollywood
film industry and participate in all segments from
film financing to production and distribution. Huayi
would partner on nearly every title STX studios
produced and be granted first rights to distribute STX
films in China where the Wang brothers’ reach and
connectivity was far greater than the US studio’s.
Not all films were expected to be appropriate for
the Chinese market, but they would qualify as
co-productions and therefore have easier access to
the market through the government quotas than 100
per cent foreign films. The impending partnership
would leverage each company’s strengths to expand
their combined global reach.
The idea for the STX partnership came from
Donald Tang who had close and long-standing
relationships in the entertainment business in both
China and the United States, in particular with
Simonds and the Wang brothers whom he had known
for over 20 years. He also was a personal friend of
Dominic Ng, CEO of East West Bank, which was
lined up to finance the transaction.
822 SECTION V CASES

Huayi could not expand into the US entertainment
market without bringing the right people to the
table and tapping into their expertise. Said Hu: “(In
China), we know those people . . . who is good and
who is not. When we enter into a new market, a new
world, we have no connections. We don’t know how
to judge people; it’s very confusing.” Whether or not
those individuals could be recruited and developed
within Huayi or needed to be acquired through
mergers and acquisitions was uncertain.
The company’s new wholly owned US subsidiary
was a starting point to retain its own creative people
and develop Hollywood productions. Huayi had
already signed a co-production agreement with QED
International to work together on the World War II
film “Fury” starring Brad Pitt and Shia Leboeuf,
which it would distribute in China. This agreement
would provide challenging, creative work in the short
term to help retain the company’s top talent and grow
organically while Huayi continued looking for the
right US targets to invest in or acquire. In the United
States, there were two other types of businesses
besides movie production that looked attractive for
acquisition: talent agencies and social networking
start-ups that the company could leverage to support
the convergence between its core divisions’ products.
Financial performance and
growth
In April 2015, Huayi was worth an estimated ¥30
billion ($7.9 billion). The Wang brothers personally
held a 30 per cent stake in the company. Other major
shareholders included Tencent (4.86 per cent), Jack
Ma (Alibaba, 4.03 per cent), Yu Feng (1.76 per cent)
and Lu Weiding (1.42 per cent). For further details
about the balance sheets and income statement see
Exhibits 1 and 2.

EXHIBIT 1 BALANCE SHEET IN ¥ MILLION

2014 2013 2012 2011 2010

Current assets
Cash and cash equivalents 1829 1137 642 531 847
Notes receivable 6 – – – –
Accounts receivable 1612 1147 1001 410 458
Payment in advance 921 462 386 399 106
Interest receivable – – – 0 1
Other receivable 50 67 53 7 20
Inventory 816 575 701 543 226
Non-current assets within one year 4 – – – –
Other current assets 11 4 12 12 4
Subtotal – current assets 5250 3393 2794 1902 1662
Non-current assets
Available for sale 1695 2189 588 – –
Long-term receivables 67 41 32 14 10
Long-term investment 784 878 386 319 184
Fixed assets 354 317 273 117 69
Intangible assets 74 2 – 20 –
Goodwill 1486 354 33 77 77
Long-term deferred expenses 20 4 4 4 7
Deferred tax assets 89 35 28 10 15
Subtotal – non-current assets 4569 3819 1344 561 360
Total assets 9819 7212 4138 2464 2022
Current liabilities
Short-term loans 785 668 593 – –
Accounts payable 311 501 496 195 254
Receipt in advance 305 77 88 138 82
Accrued payroll 24 5 4 3 3
Tax payable 425 256 93 70 41
 CASE 12 HUAYI BROTHERS: STRATEGIC TRANSFORMATION 823

2014 2013 2012 2011 2010

Interest payable 18 27 23 3 –
Other payable 303 110 23 48 72
Non-current liabilities within one year 142 – – – –
Other current liabilities 600 600 300 300 –
Subtotal – current liabilities 2913 2243 1621 756 452
Non-current liabilities
Long-term loan 849 502 300 – –
Long-term payable 0 – – – –
Deferred tax liabilities 364 506 93 – –
Other non-current liabilities – 2 – – –
Subtotal – non-current liabilities 1225 1011 393 – –
Total liabilities 4139 3254 2013 756 452
Shareholders’ equity
Share capital 1242 1210 605 605 336
Capital surplus 830 1632 989 710 979
Surplus reserve 247 137 68 40 32
Accumulated profits 1836 964 458 333 205
Shareholders’ equity attributable to 5037 3942 2120 1687 1552
parent company
Non-controlling interests 643 16 5 21 18
Total shareholders’ equity 5680 3958 2125 1708 1570
Total liabilities and shareholders’ equity 9819 7212 4138 2464 2022
Source: Company documents.

EXHIBIT 2 INCOME STATEMENT IN ¥ MILLION

2014 2013 2012 2011 2010

Total operating revenue 2389 2014 1386 892 1072

Operating revenue 2389 2014 1386 892 1072
Total operating cost 1636 1565 1188 654 890
Operating cost 934 910 685 377 566
Business tax and surcharges 14 20 40 41 34
Selling expense 330 383 281 154 232
G&A expense 230 95 79 78 58
Financial expenses 99 73 61 −8 −12
Asset impairment loss 30 84 43 12 13
Investment income 426 374 56 6 1
Operating profits 1179 823 254 245 183
Non-operating income 103 82 68 33 15
Non-operating losses 3 7 1 4 7
Non-current assets disposal loss 0 2 0 0 0
Gross profit 1279 898 321 273 190
Income taxes 245 225 80 68 40
Net profit 1034 673 241 205 150
824 SECTION V CASES

2014 2013 2012 2011 2010

Net profit attributable to parent company 897 665 244 203 149
Non-controlling interests 138 8 −4 3 1
EPS
Basic EPS 0.73 0.55 0.40 0.34 0.44
Diluted EPS 0.73 0.55 0.40 0.34 0.44
Other comprehensive income −413 1242 – – –
Comprehensive income 621 1915 241 205 150
Comprehensive income attributable to 483 1907 244 203 149
parent company
Comprehensive income attributable to 138 8 −4 3 1
non-controlling shareholders

Notes: G&A expenses: general and administrative expenses; EPS: earnings per share.
Source: Company documents.

In September 2014, the reported operating income
and net profit for Huayi was ¥958 million and ¥455
million, respectively. The company registered a 10.4
per cent rise in net earnings in the first nine months of
the year. This followed a period of substantial growth
during the previous year when income from the
company’s main business recorded a year-over-year
increase of 43.7 per cent, of which ¥1.08 billion was
from films and spin-offs. TV shows and associated
business income totaled ¥517 million, a year-over-
year increase of 36.13 per cent.
The company’s growth was also evidenced in
recent mergers and acquisitions, as in 2013 it merged
with Yinhan and purchased TV producer Zhejiang
Changsheng and Internet entertainment company
Maizuo.com. Said Dennis Wang:
Financial performance for us is very easy to
measure. Other indicators we use are box office
revenues and the new directors we have signed
up. If, for example, we sign up two or three new
directors each year, we would think it is a success.
Of course we use accounting metrics, like
profit. But also, we have other key performance
indicators such as number of visitors for Internet
entertainment sectors, and in live entertainment
it is how many sites are under construction.
Organization and culture
In 2015, Huayi employed 1500 staff across its three
divisions, including its recent US subsidiary based in
Hollywood. The senior management team was very
small and was led by board chair and CEO Dennis
Wang, President James Wang and CFO Brenda Hu.
Dennis Wang was responsible for the company’s
overall strategic planning and financial management
and oversaw the company’s Live Entertainment
divi si on. Jam es Wang wa s re spon sib le fo r
the company’s overall operations and Visual
Entertainment division. Hu, who joined Huayi
in 2005 and led the company’s IPO in 2009, was
CFO and in charge of the company’s Internet
Entertainment division.
Huayi’s financial forecasting and strategic planning
was very short term due to the constantly changing
nature of the entertainment business in China. With
movies, in particular, it was still largely impossible
to predict the right formula for box office success.
Newly emerging Internet companies appearing on
the scene were also trying to expand into producing
movies and crowding the marketplace. While the
management team looked ahead as far as three to five
years trying to determine how to best diversify and
grow, its focus was on executing a one-year strategy
and adjusting quarter by quarter. Said Hu:
We have some principles of how we do business,
but it’s really difficult to do even a three-year
business plan. We focus on a one-year period.
We have our plan—but we don’t have a budget.
It is very short, two to three pages high level,
with some targets. Not a formal document. It
just changes so, so fast. We have to move very
fast, as a management team, sitting around the
table to discuss that document, or what goes in
 CASE 12 HUAYI BROTHERS: STRATEGIC TRANSFORMATION
that document or not? We do it once a year, with
all the management team. But we have daily
communication.
From a business standpoint, Dennis Wang focused
on personally managing mergers and acquisitions,
relying heavily on the company’s professional
managers to run the day-to-day operations. His
educational background was a major in mass media
and art studies from New York State University,
so self-admittedly finance was not his strong suit.
He was a passionate art collector, with his own
personal gallery. His strength was to be hands-on in
the recruitment of movie directors and devoting his
energy to “future visioning.” In spite of his title, he
had no fixed role or responsibility and only visited
his office a half dozen times a year at most, preferring
instead to spend his time with film artists to get ideas
and inspiration. He said:
I bring romance and joy to the table, visioning
the future of the company. I love my team; Huayi
is more like a happy family. . . . My leadership
style is more random, like painting. I don’t plan
my day. For example, I spent this morning with
director Xiaogang Feng, chatting about his
future and his new movies. I had a good time but
also figured out where Huayi is moving towards.
Although it was over 20 years old, Huayi’s corporate
culture resembled that of a young start-up enterprise:
very small, efficient and active. Its management
hierarchy was flat, with very few formal roles and
functions. The company used stick incentives to
stimulate innovation and attract top talent. For
example, when the equity structure of the Internet
Entertainment division was revisited, 50 per cent of
the stock went to the team. A key concern among
the top management team was to retain talent,
so deliberate steps were taken to nurture internal
“intrapreneurs” and encourage them to start their
own companies within the Huayi umbrella.
The company prided itself on its track record
for innovation in the industry, proclaiming in
its promotional materials to be “taking the road
others didn’t dare to tread.” It claimed ownership
of a number of industry firsts, including first to
participate in all film development stages from
investment to shooting to distribution. Huayi was
also the first privately owned TV company to attract
external capital, finance films through banks and go
public with its IPO.
825
Next steps
Looking ahead, Dennis Wang wondered from where his
company’s future growth would come and what action
would be needed. Huayi needed to establish a brand
presence in North America if it were going to attract
future investment on a global scale. He wanted to have
controlling interest in whatever lay ahead—something
he had not been able to achieve after one year of difficult
negotiations with Robinov in the failed Studio 8 deal.
This time, he was also looking for a more “roll up the
sleeves,” hands-on partner—someone who wanted to
be more actively engaged in the entire process from
film conception to release. In China, JVs were more
collaborative. Producers and directors took an active
role acquiring actors and developing the project early
in the process. Dennis Wang discovered by comparison
that Hollywood was not as eager to work together until
all of the financial and legal negotiations had been
finalized. And even then, in the movie business there
were no guarantees the personal chemistry that was so
important to him would be right. He said:
I think finding a business partner depends to
some extent on luck and fate. Huayi wasn’t able
to become a controlling shareholder of Studio 8
as I had hoped. The ideal partner for me would
be someone who does both movie production
and distribution. I sensed a stronger chemistry
with STX . . . [but] I haven’t stopped looking at
other American film companies; I think China
has a great chance to enter the US market.
STX was different than other US film companies in
the sense that it was founded by a number of new
entrepreneurs. And it was, in fact, doing both movie
production and distribution—only a few of the large
US companies did both. Dennis Wang wondered if
this would bode well for a successful JV. Why had
no foreign film company ever been successful in
Hollywood? Could Huayi break this pattern?
Endnotes
1
¥ = yuan renminbi. All currency in US dollars unless specified
otherwise. US$1 = ¥6.26, March 15, 2015, www.xe.com/
currencytables/?from=CNY&date=2015-03-15, accessed March
15, 2015.
2
“Movies & Entertainment in China,” Marketline, April
2015, www.reportlinker.com/p02906359-summary/Movies-
Entertainment-in-China.html, accessed December 8, 2015.
3
“Media in China,” Marketline, October 2015, http://advantage.
marketline.com/Product?pid=MLIP1741-0005, accessed
December 8, 2015.