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What a Funder needs to know about basic funding
with films or entertainment project.
Equity Deals
Equity Deals come in many sizes and shapes.
A common one is a production-financing-distribution (PFD) deal, which is
with a major studio, usually.
Independent Distributor Financing is similar to a PFD deal, except in
this case the distributor is not affiliated with a major studio.
Another one is end-user financing.
Finally, talent agencies can act as intermediaries in obtaining equity
financing for a package of films.
PFD Agreement
This includes Production-Financing and Distribution; it’s also called a
P-D or a Studio Development Production Deal.
The first phase is a "Development Deal Memo" between the producer and
the studio.
The Development Deal Memo outlines the agreement, salary, time
schedules, screen credit, and percentage points.
A PFD is usually a step-deal – that is, compensation is provided one
step at a time, contingent on satisfactory completion of a stage. The
studio usually retains the right to withdraw at any point in the
development of a film.
PFD Deals
When a deal is signed, the director is paid a small amount, to cover the
period until the film is either green-lighted or put in turn-around.
If the film is green-lighted, the producer might be paid the remainder
of his compensation according to a schedule.
For example, 20% over preproduction, 60% over principal photography (or
production), 10% on delivery of the first cut of the picture and 10% on
delivery of the film to the distributor.
The producer may also get a cut of the gross or net profit, depending
upon his clout.
End-User Financing.
End-User financing is when a theater, cable or television station will
put up money in exchange for equity percentage participation in the
film's revenue stream for specific markets.
This is comparable to pre-sale financing, except that in the latter
approach, there may be no funds provided up-front.
End-user financing can be obtained from several end-users.
The foreign market may be another possibility to acquire end-user
financing. However, foreign entities may also be willing to buy foreign
rights outright.
Completion Funds.
Completion funds are designed to provide partial production financing or
post-production financing.
Usually completion funds are obtained when principal photography has
been completed but the release of the film is held up because of lack of
funds to pay the lab or due to lack of funds to complete
post-production.
Since the participation of the financier providing completion funds is
key, often he has to be paid a larger percentage.
Gap/Supergap financing
Gap/Supergap financing is a form of
mezzanine debt financing where the producer completes their film
finance package with a loan secured against the film's unsold
territories and rights.
Gap (or supergap) loans are subordinate to the senior/bank production
loan, but in turn, the gap/supergap loan will be senior to equity
financiers.
A gap loan becomes a supergap loan when it extends beyond 10-15% of the
production loan required to shoot the film; usually a bank is unwilling
to bear the risk beyond 15% of the budget.
Gap/Supergap lending is a very risky form of capital investment and
accordingly the fees and interest charged reflect that level of risk.
Investor Financing.
Often a single wealthy investor or a group of investors may be willing
to finance a film. This may happen at the development, pre-production
or production stage.
For example, in recent years, hedge funds have been interested in
financing picture deals.
Often such a deal might be in the context of a limited partnership,
where the limited partner is not liable for budget overruns and only
risks the capital invested.
Often limited partners are interested because of the tax advantages.
Expenses may be immediately deductible for tax purposes, while taxes on
profits may only have to be paid in the distant future – this would be a
way of maximizing the value of tax deductions. This is comparable to a
firm with high taxable profits acquiring another firm with tax-loss
carry-forwards.
Tax-Shelter Deals
A number of counties have introduced legislation that has the effect of
generating enhanced tax deductions for producers or owners of films.
Schemes are created which effectively sell the enhanced tax deductions
to wealthy individuals with large tax liabilities.
The individuals pay the producer a fee in order to obtain the tax
deductions.
The individual will often become the legal owner of the film or certain
rights relating to the film, but the producer will in substance continue
as the real owner of the economic rights to exploit the film.
For example, German tax-law used to allow investors to take an instant
tax deduction even on non-German productions and even if the film has
not yet gone into production.
The film producers can sell the copyright to one of these tax shelters
for the cost of the film's budget, then have them lease it back for a
price around 90 % of the original cost.
Co-financing.
Co-financing partners share production and distribution costs and agree
to split future revenues.
When Fox decided to make the movie Titanic, it asked Paramount to put up
$65 million to help finance the film in exchange for a portion of
profits and movie rights.
Co-financing can be for one or several movies.
Studios tend to co-finance if they are financially constrained.
Riskier movies tend to be co-financed, while less risky pictures are
financed in-house.
Films tend to be co-financed if they are much riskier than the usual
films that the studio finances.
Co-financing
When different films have to compete for scarce in-house resources,
riskier films often tend to get side-lined.
Nobody wants to take them on because they have a higher probability of
being abandoned.
And if they do get abandoned, the individuals involved bear a
disproportionate amount of the cost, since they don’t get credit for the
time spent on the abandoned movie.
Hence, otherwise desirable movies don’t get made because of the human
capital considerations involved.
Using co-financing in such cases ensures that enough financing is
provided because the studio as a whole commits funding to the project –
no one major has to bear the costs of failure.
Problems with Outside Equity
A big problem with outside equity – normally – is information asymmetry.
In the film industry, the problem is less information asymmetry than
lack of any information – it’s very difficult to forecast film revenues.
The bigger problem with equity is the expectation of artistic control.
Hence producers are always looking for investors how want to have
exposure to a new source of risk or to be associated with a creative
venture – without artistic control.
The availability of outside equity also means that studios may not be
able to insist on artistic control if they want to participate.
Consequently, studio compensation may be more fee-based, rather than
equity.
Actors themselves are also investing in the equity of a film, these
days.
Lender Financing and Outright Sales.
In addition to obtaining equity financing, it is also possible to
finance pre-production and production by selling part of the rights to
distribution or to other revenue streams.
Commitments to purchase such rights in the future can also be used as
the basis for bank and other lender financing.
Negative Pickup Deal
A
negative pickup deal is a contract entered into by an independent
producer and a movie studio wherein the studio agrees to purchase the
movie from the producer at a given date and for a fixed sum.
Until then, the financing is up to the producer, who must pay any
additional costs if the film goes over-budget.
Superman and
Never Say Never Again are examples of negative pickups.
However, once a negative pickup deal is signed, it is easier to obtain
financing for the production, since there is already a buyer for the
film. E.g., the pickup letter can be used as collateral for borrowing
from a bank.
If there is no prior deal, but the film is offered to a distributor
after being produced, it’s called an acquisition.
Negative Pickup Deal
Since the buyer has already committed to purchasing the film in a
negative pickup deal, the producer has a free hand, subject only to
satisfying his investors.
This may result in the producer reducing the riskiness of the film and
the quality of the end-product as well.
For example, in
Terry Gilliam's
Brazil, the producer,
Arnon Milchan, had a negative pickup from
Universal Pictures. The studio had creative disagreements with the
director over choice of star, content and duration, and failed to
resolve these issues to its satisfaction, because the negative pickup
had essentially granted Milchan
final cut.
The studios and distributors will contain this risk by offering the
negative pickup contract only to a production that has financiers, a
script, and key creative personnel, particularly the
director and
Movie Star.
Presale Financing Deals
This is the funding of a film’s production costs through the granting of
a license for the film’s rights by a producer to a distributor in a
particular media or territory before the completion of a film.
Presales can take the form of funds, guarantees, or commitments.
Even if the presale does not provide immediate funds, it can be used as
collateral for a loan, similar to the negative pickup deal.
Completion Guarantee
Banks and other investors are interested in ensuring that the film is
completed – without a completed film, there is little chance of their
recouping any of their investment.
Furthermore, given the nature of pay-or-play contracts, if a film is
stopped midway, it may require a large investment for it to be resumed.
A completion guarantor is a company that agrees either to advance all
sums required to complete payment of a production cost of a picture if
that cost exceeds the budget, or to repay the sums a financier has
loaned or invested.
The completion guarantor charges a fee that could be up to 6% of the
film’s budget.
A completion guarantor itself needs financial backing. This is obtained
by the insuring of the completion guarantee.
Financiers usually don’t have expertise in how a film is made and what
aspects of the film production are likely to delay the completion of the
film or to cause it to exceed its budget.
Completion guarantors are knowledgeable in this respect and thus add
value.
The guarantor inspects the budget, script and the shooting schedule to
ensure that the film is feasible.
The guarantor ensures that finance equal to the approved budget for the
film is available all personnel - artistic and technical - are available
for, and indeed capable of, the making and completion of the film that
insurance, studio and location arrangements are satisfactory that the
documents to the acquisition of the basic story and/or novel, the
screenplay and the music in order to be sure that the production company
is entitled to make the film.
That service agreements with the director and artists do not grant
rights which would seriously endanger the delivery of the film .
The guarantor closely monitors the shooting of the film and receives
daily shooting progress reports and regular cost reports.
It also monitors the post-production schedule until the film is actually
delivered to the distributor.
Capital Structure: Financing films prepared by: Prof. P.V. Viswanath
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