FINANCING A FEATURE FILM FROM THE GROUND UP
By John W. Cones
Initial Considerations Regarding the Choice of Film Finance
Let’s say you’re a filmmaker and want to produce that special film (a feature or feature-length documentary) the way you envision it on the screen. How do you finance it? The answer to that question, of course, depends on a number of factors, not the least of which is the anticipated production budget for the film. In addition, the form of film finance chosen may have an impact on the level of creative freedom enjoyed by the producer team.
First however, it is important to note that there are three stages in the life of a motion picture that can be financed separately: (1) development (in the broader sense of the term), (2) production (including pre- and post-production) and (3) distribution.
If for example, you are set on producing an expensive movie, something in the $20 to $50 million dollar range and up, the financing choices are very limited. Those films are usually produced as in-house production/distribution deals or production-financing/distribution (P-F/D) deals by or with one of the major studio/distributors. For your film project to become the subject of an in-house production/distribution deal the writer, director, producer, actor or other person with an idea for a movie typically approaches a creative executive at one of the major studios and pitches a movie concept while it is still just an idea (no script exists yet). Of course, pitching movie ideas is fraught with danger and people who engage in that activity must make themselves aware of that body of existing law relating to protecting ideas from theft. Theft of ideas in Hollywood may be more common that we actually know. After all, copyright law does not extend to ideas and protecting ideas is based on contract law, the particulars of which are not all that familiar to many filmmakers (see “The Idea Submission Case: When Is An Idea Protected Under California Law?” Glen L. Kulik. Beverly Hills Bar Association Journal, Winter/Spring, 1998, pages 99-111).
In any event, the individual pitching a movie idea to a studio creative executive is ostensibly seeking a development deal in which the studio provides some financial support for the development of the idea into a script which may serve as the basis for producing the movie. Of the many thousands of scripts being developed by the studios in any given year, only a very small percentage actually get produced. However, if the studio likes the resulting script it may greenlight the project to be produced as an in-house production in which the studio also pays for the production cost and its affiliated distributor covers the cost of distribution. So, in this instance, the studio has been asked to pay for all three stages in the life of the film: development, production and distribution and studio executives can be expected to actively participate in helping to make some of the more important decisions with respect to the script and the production. So this approach to financing a film may provide the least amount of creative freedom, after all, the studio generally wants its movies to appeal to as broad an audience as possible, and that objective sometimes conflicts with the vision of the producer and/or director.
The P-F/D deal differs from the in-house production/distribution deal in that the independent producer (or writer, director, actor functioning as a producer) approaches the major studio/distributor at a later stage in the development of the movie (i.e, after a script has been written and a certain amount of packaging has occurred). In this sense, packaging refers to attaching elements to the script to create a movie package. Attaching elements means that firm commitments have been obtained from a director and actor leads. Several of these activities may cost money and this presents many filmmakers with their classic catch-22 (i.e., they often can’t attach recognizable name actors to the package without putting some money at risk and they can’t raise much money without recognizable actors attached).
So with respect to the P-F/D deal, the independent producer is responsible for financing that first stage in the life of the film – the development stage. Some of the costs that may be incurred in this development stage include: cost of acquiring underlying rights (if any), cost of developing the script (e.g., hiring an experienced screenwriter), hiring a line producer to prepare a budget based on the completed script, hiring a casting director, attaching the previously mentioned elements, among others. Some of these costs may be more traditionally considered pre-production items. So for financing purposes, there may be an overlap of development and pre-production activities.
Attaching elements may be the most expensive of these development costs and can range from the full pay or play deals (usually out of reach for most independent producers) to non-refundable deposits based on a percentage of the actor or director’s normal salary. This money is at risk because to get a firm commitment the talent needs to block out a certain amount of days on his or her calendar for participating in the production of your film, and if you fail to raise the production financing for any reason, the deposit will have been earned by the talent for the commitment alone. A good casting director can help establish what portion of the development budget will be required to attach elements.
These development costs may be raised in many ways. Such funds may be acquired as grants, gifts, collateralized loans or investments. It is not uncommon for independent producers to seek out a single active investor who will put up the development money needed to attach elements and to move the project forward. It is much less common for any single individual to actually put up all of the development funds and if they do, they are very likely to want to have a significant say in how the money is used (i.e., the active investor). So again, some of the producer’s creative freedom may be lost to such an investor. The active investor may be sought through the use of a business plan and an associated investment vehicle such as an investor financing agreement, joint venture agreement, the formation of a new corporation or a member-managed limited liability company (for additional information on each of these active investor investment vehicles see my book 43 Ways to Finance Your Feature Film, Third Edition, Southern Illinois University Press, 2008).
Another useful strategy for these risky development funds is to spread the risk as much as possible among a large group of passive investors. That way no single investor is assuming too great a risk and as passive investors, they have no say in the creative decision-making. Raising money from passive investors, however, typically involves the sale of a security and compliance with the federal and state securities laws (including the use of a securities disclosure document instead of a business plan), so at this point, the producer will want to consult with a securities attorney who is experienced with film offerings. The passive investor investment vehicles typically include the limited partnership, manager-managed limited liability company or possibly selling shares in an existing corporation, although the corporate investment vehicle is less common for independently financed film projects.
In order to avoid paying the costs for such a passive-investor development offering out of pocket, the producer may want to seek out a single prospective investor who is very supportive and may invest in the development deal anyway, to informally advance the funds to cover the offering expenses. Those may include: attorney fees, notice filing fees, costs of creating the entity, copying and binding for the securities disclosure document, possible artwork for the cover, along with miscellaneous marketing costs. The producer may want to offer this start-up investor a profit participation on the producer’s side as an added incentive to come in with these early funds, although the producer may want to try to structure these start-up deals initially as gifts or loans. Such start-up funds may also come from an active investor who is an equity owner in the producer’s production company (another choice of entity consideration).
n any case, the idea in this instance is to start small, to raise the money needed to cover the offering costs for an investor-financed development offering from a friend or family member that is supportive of your efforts as a filmmaker, then raise the development money for the film project from a larger group of passive investors. Once that’s done, the script is developed and elements are attached, the producer can approach the studio with a completed script and package seeking the P-F/D deal in which the studio will loan the producer the money to produce the film and the studio’s affiliated distributor will distribute the film once it’s produced. So, in this scenario, the independent producer has been responsible for raising the development funds, the studio has loaned the production funds and the studio’s affiliated distribution arm has paid for the distribution expenses.
A third possibility is for the producer to again raise the financing for the development phase, as described above, then take the completed script and attached elements (the package) to a distributor that is considered credit-worthy by the entertainment lenders (typically the major studio/distributors and possibly a few other of the most successful independents) seeking a distribution agreement and guarantee to pay a specified sum upon delivery of the completed film. The producer then takes that distribution agreement and guarantee to a bank that is in the business of making entertainment loans and if the bank is interested in providing the production loan to this producer for this particular film project, it will require the producer to obtain a completion bond so that the bank is not at risk for the film going over budget. If all is in order, the bank will provide a discounted loan to the producer (meaning it will not loan the full price guaranteed by the distributor but something less than 100%). The bank is in effect using the distributor’s agreement and guarantee as collateral for the loan. The producer then uses the loan funds to produce the film and upon delivery of the completed film to the distributor (assuming it meets all of the criteria set out in the distribution agreement with respect to running time, adherence to the approved script, use of the approved elements, MPAA rating and so forth) the distributor is then obligated to pay the specified amount, which through contractual arrangements between the producer and the lender is used to pay the lender’s principal, interest and fees. So the bank is out of the deal before the film is even released and the producer has raised the development funds, the bank has loaned the production funds and the distributor provides the moneys to cover the film’s distribution expenses.
If there is but one distributor and it has negotiated for worldwide rights, this describes the traditional worldwide negative pickup. If the producer negotiated two distribution agreements, one for domestic rights and another for international rights, that describes the split rights negative pickup deal. The film’s rights have been split between the domestic and international markets and two separate distributors are involved. In other lender financing situations, the producer may seek multiple distribution agreements through a foreign sales agent and with foreign territorial distributors so that the distribution agreements representing international rights serve as the effective collateral for the bank loan just as with the worldwide negative pickup or split rights deal. These various forms of lender financing for the film’s production phase are most commonly used for the mid-budget level films, somewhere in the $5 to $15 million dollar range.
Note again that such lender financed deals cannot be accessed without a completed script and attached elements (a package), so the independent producer is confronted once again with another variation of the producer’s catch-22: distributors typically want to know what recognizable names are attached both as actors and director, but it is extremely difficult to firmly attach such individuals to a project without putting some money at risk and it is difficult to raise money without a distribution deal and package in place. So again, one of the ways to move around that catch-22 is to spread this early financial risk amongst a large group of passive investors from outside the industry (with an investor-financed passive investor offering) so that no single investor is assuming too great a risk (for help in finding such investors see “Keys to Finding Prospective Investors” online at http://www.mecfilms.com/coneslaw/articles.htm).
In a fourth film financing possibility, the independent producer is responsible for financing the film’s development costs, however he or she chooses and then raises the production funds independently from a large group of passive investors conducting a securities offering as briefly described above. There are no legal limits to how much money can be raised in this manner, however, there appear to be practical limits. So, investor financing for the production phase is typically limited to the several million dollar low and ultra-low budget films unless the producer group has access to and interest from some high net worth individuals.
It is important to note at this point, that just as producing a motion picture is considered a collaborative process, so is the financing of a feature film. It usually takes not just a producer, but possibly several executive producers or associate producers, and one or more film finance specialists who may be securities attorneys, entertainment attorneys, business plan consultants, foreign sales agents, bank executives, completion guarantors and/or insurance brokers.
In this fourth scenario, the independent producer typically has the most creative freedom since presumably the producer funds have been raised from passive investors who are restricted from participating in the creative decision-making. On the other hand, this may also be one of the more risky film finance scenarios since there is no distribution in place and distribution arrangements are generally made after the film is completed. That effort typically occurs through film festivals and markets, sending DVDs directly to distributors or hiring a screening room in Los Angeles and sending out invitations to distributor representatives. In such situations, the distributor will acquire rights to distribute the film in all or some markets and media by means of an acquisition deal, often providing an advance to the producer. The strategy for the independent producer is to obtain an advance that is greater than the cost of producing the film so that even if an ongoing profit participation in the film’s revenue stream is negotiated, the producer and his or investors are into profits before the film is released. The odds of getting such a distribution agreement on an acquisition basis along with such an advance are not favorable, but on the other hand, all of the film finance scenarios described above are considered long shots for most independent film producers. Note that in this fourth film finance scenario as described the independent producer was responsible for financing the costs associated with the first two phases in the life of the film (development and production) while the distributor, if one comes on board, typically pays for the film’s distribution expenses.
A fifth film finance scenario may involve some of the above described techniques whereas the filmmaker is responsible for financing the costs of all three phases of the film (development, production and distribution), but then an established distributor is hired by the producer on a rent-a-distributor basis to use its facilities and expertise to actually distribute the film.
possibilities or combinations relating to film finance or distribution may
include state, federal or international tax incentives, collateralized loans,
gifts and grants along with various forms of self-distribution (for a better
understanding of certain terms used in this article see my book Dictionary
of Film Finance and Distribution – A Guide for Independent Filmmakers,
Marquette Books, 2007).