We recently sat down with FUNimation founder and CEO Gen Fukunaga in his office in Flower Mound, Texas to talk about FUNimation and the anime industry.  In the first part of this two-part interview, we talk about the anime market in the U.S., the impact and future of legal and illegal downloading, and timing issues for Japanese vs. U.S. releases.  In Part 2, we talk about anime DVD-buying demographics and FUNimation's plans for 2008.

What's your view of the state of the anime market in North America coming into the new year?

The great news is that the consumer base continues to grow, meaning that more people are viewing anime and more people are interested in anime. They're watching on TV more, and more titles are going on the airwaves because the networks do see that they are getting viewers from anime. People are watching it on the Internet, as the downloads are dramatically increasing; but, that leads to the problem that a lot of it is illegal.

The way to monetize that growing fan base is shifting away slightly from the DVD market.  DVD sales are going down, per SKU, probably because of illegal downloads and also pricing.  Anime has always been priced at a premium in the DVD market, and it probably has to come back in line with the rest of Hollywood now.  Illegal downloads probably triggered that too, because it gave an easy alternative for the fan to get it if they thought the price was too high. I think illegal downloads are definitely an issue, and therefore the main mode of monetization of the customer is definitely suffering.

Do you think the impact of downloads on anime is just the leading edge of a trend that's going to affect all packaged home video, or is it something different?

Yes, I think so--I think it will affect all packaged home video.  How well it's protected and how people like the MPAA react are going to be big questions.  The big Hollywood studios have the power, and they're going to set the standard on how protection is going to be enforced.  We're going to be more followers with whatever Hollywood does, so we've been watching what they're doing and certainly we feel the anime industry must do a lot more anti-piracy work.

Is there any way to stop the illegal downloading of anime? Could Japanese and American companies work together better to do that, or is it just a lost cause?

I actually think that it is fruitful to go down that path of anti-piracy.  The biggest problem is being caused by the timing gap, being that the illegal stuff comes out as it's being broadcast in Japan and the stuff doesn't get licensed for the U.S. for many months later.  That gap is what's creating a thorny problem for the U.S. market and the U.S. distributors.  So if we can find a way to get rid of the gap or get rid of the fansubs themselves before they license it, that would make a huge difference.  I think there are methods and techniques out there that would work if people are willing to invest the time, effort, and money to do it.

Do you think that's going to happen?

From hearing what the Japanese feel, now that they've seen the huge difficulties some of our competitors are having, they've suddenly woken up in Tokyo.  They're talking a lot about this issue right now.

Can you talk about where  you see trends going with legal downloads?

With legal downloads, for our demographic, it'll be iTunes, Xbox, and Playstation 3 as the best revenue generators for legal download-to-own. Right now, even our Xbox deal is making at least 80%-90% of the revenue iTunes makes for us, which shows you how close we are to the gaming demographic.  We see that revenue more than doubling in the next fiscal year for us. So, it's growing for us.

So of those three, iTunes is the largest?

Yes.

Are you going to be expanding the number of titles or episodes available for download-to-own?

Absolutely.  The only thing slowing us down is that it's not that easy to just convert it digital.  You have to have equipment and people to convert it to digital, and that takes resources on top of everything else they're doing, then the flipside is the distributors, iTunes and Xbox, can't ingest that many titles because they're just bombarded with them; they can only take a certain number a month.  So those bottlenecks are more the issue than us getting rights.  We are getting rights, pretty much across all new titles, and we probably won't do a deal without those rights anymore.  We have the rights, but we have to spin production and get through those bottlenecks.

There has been a lot of talk about the three or four episode single-disc format and whether that's a doomed format and everything's going to go to season sets.  What's your feeling about that?

I think that's exactly what will happen.

What is FUNimation going to do in that regard?

We're going to follow that model as well.

This year you're going to stop doing single volume releases?

We can't stop singles because some of the Japanese licensors won't allow us in the contract to stop single releases.  We will have to continue that, but in many cases we will be doing season set launches only.

Another thing we've been seeing is releasing new anime series in a subbed-only format at a slightly lower per episode price, so you don't have to create the English language track.  Is that something that FUNimation is doing?

We are going to be doing that in the download-to-own area, digitally, because historically, those don't turn enough to get it on retail shelves.  The cost of the inventory and producing them and getting them out to retail hasn't panned out because of the lower turns.  With download, you don't have those side issues, so we're definitely going to do it in download. 

Now in physical disc, it's an unknown right now.  We're still looking at the market.  What we'd rather actually do is titles that turn enough that we don't have to even think about that -- that we can dub them all because they turn enough.

You talked a little about lag time.  Can you talk specifically about anything you might be doing to reduce the lag time between when series appear in Japan and when they come out here?

That brings up a problem, because one of the benefits of waiting to see it release in Japan, is that we can try to avoid the loser titles--the ones we know are going to bomb out because they bombed in Japan.  That's a big risk reduction in our model.  If we move to being too close to the Japanese, we lose that benefit and it adds risk.  Whether that risk compares to the illegal download situation, it's starting to become questionable at this point.  Illegal downloads are really a problem right now.  We're not sure how that's going to pan out.

For long series you could shorten it up, though?

The problem with long series is we can't release DVDs fast enough to keep up with the broadcast speed in Japan.  Like One Piece, we're seasons behind.  We won't be able to put out DVDs fast enough to catch up.  I don't know if the problem's going to be any different in that sense. 

With the recent changes in the U.S. anime market, are Japanese licensors reducing their demands in terms of what it costs to acquire material for the U.S. market?

The Japanese are absolutely reducing their advances required to acquire titles.  Obviously, they need to charge what's fair in the market for us to be able to recoup.  So yes, the numbers are getting as low as free (no advance), which is still not free because we still have to spend $10,000 an episode to dub the thing.  It's a huge investment for us.  Then we have to spend tons of money marketing it, launching it, designing the package.  It's huge money to launch a title, so in a sense we are totally investing regardless of the advance.  The advance concept is getting to be a silly notion, I think.

We talked about download-to-own as a means of delivery. How many more years do you feel the DVD format will remain the dominant commercial form for the distribution of anime?

Actually, I think that will be quite a long time. You still have bandwidth issues for any kind of downloading mechanism, and you still have storage issues.  At some point, are people really going to have terabyte drives all over the place and spend thousands of dollars on these devices that can crash and burn and lose it all?  So then you have to buy another terabytes of data storage -- a disk farm to store it as a backup?  At that point you might as well buy the darned DVD.  That's one thing.  Second, if you want to see both the Japanese and English versions, you're going to buy it twice in download?  And there are all these extras.  The other issue--just when you think there will be enough bandwidth -- it'll all go HD, and HD's going to require four times more bandwidth as so the cycles start all over again.  So I don't see anywhere in the next five years that that will be the issue.

It looks like the high definition format war may be entering its final stages.  Do you think the high def DVD medium has potential for anime companies once a single format is established?

Yes.  We feel there will be -- that's a definite positive.

Retailers are telling us the release per episode cost of box sets, a fairly short time after the single release, has trained consumers to wait for the initial releases.  Sounds like your solution to that is to move away from the single releases over time as soon your licenses expire that still require them?

Yes, we feel that's the way the market is going in general.  That's what will have to happen.

Click here for Part 2.