Pic clunker insurance facing test

Studios eager to get coverage

NEW YORK — In their relentless search for ways to guard against potential turkeys or raise production cash, Hollywood studios are increasingly turning to suits from Chicago and London for insurance policies to cover potential losses on pics.

But insurers have a way of finding loopholes to deny payments when claims are filed, whether for health insurance or car insurance. The big question in Hollywood is how the insurers piling into the film industry will react when claims start being filed.

So far MGM, Paramount Pictures and Sony Pictures Entertainment have bought policies or are in the process of doing so, along with independents like Phoenix Pictures. Universal Studios also is believed to be considering an insurance policy, although U declined comment.

Claims are already on the horizon, although the policies mandate that claims can’t be made for at least three years after pics are released to ensure all revenue has been generated.

CE Heath, the London insurance broker which has done the most business in Hollywood over the past two years, expects to receive claims on a policy it wrote covering the first five pics released by Mike Medavoy’s Phoenix Pictures, said Roger Bassett, managing director for special risks at Heath North America. He added that Heath had established a reserve to pay the claims.

At the same time, Metro-Goldwyn-Mayer is expected to make a claim on a policy it had with Heath on the performance of “Red Corner,” designed to reduce the Lion’s risk on the pic.

The policy limited MGM’s write-down on the pic to $30 million, which was taken in the first quarter. But in a sign of potential trouble, Heath is trying to roll over the policy into a bigger one covering a larger slate, effectively deferring payment on the claim in the hope that future pics would make enough money to offset the loss.

Whether the Lion will go along with that, since the company has already taken the hit from the pic, isn’t clear. MGM declined comment.

Insurance policies are taken out in Hollywood for two main reasons — either to provide collateral on a credit line, as was the case with the Phoenix and Paramount policies, or to reduce potential losses as is the case with the policies taken out by MGM and Sony.

Insurance is “the most important development in film finance in the last three years. It says that you don’t have to sell off rights in order to manage your risk,” said producer-financier Peter Hoffman, who has been bringing deals to Heath through his company Cinevisions in a partnership with London insurance exec Graham Bradstreet.

“I think the concept of using insurance as a risk management tool is a good one and in the right circumstances we would do it again,” said MGM chief financial officer Michael Corrigan.

The policies can be extremely expensive, however, with the premiums as much as 3% to 6% of the amount insured. For that reason, and because every pic generates some revenue, the policies don’t always cover a pic’s entire negative costs.

“If you have a picture that is a problem, they’re a cheap form of risk coverage. If they’re on a successful picture, they’re expensive,’ said MGM’s Corrigan.

The big question in Hollywood is whether the insurers understand the risks they’re facing when they write policies on films, particularly policies covering just a handful of pics.

Those close to the insurance industry say the policies are based on sophisticated analyses of major studios’ long-term performance, which show that studios recoup their investment in a slate if it is big enough.

“For a studio slate of films over a long enough period of time you can have enough films to mitigate your risk. For a slate of five films you don’t have enough comfort,” said one banker.

Already the policies are evolving to cover bigger slates. While Heath has written policies mainly to cover a handful of pics, Sony’s policy was written by Chicago-based insurers CNA and Aon and it covers Sony’s investment in 20 pics, produced over the next couple of years by on-the-lot independents like Phoenix Pictures and Mandalay Entertainment (although Mandalay is moving to Paramount).

Details of the Sony deal are carefully guarded, but sources said it is a home run for the studio because it reduces the company’s downside risk while not taking away its potential to make money on the pics. Sony declined comment.

Aon and CNA, who are advised by Houlihan Lokey Howard & Zukin, is now pitching the same deal elsewhere, including to Universal and Warner Bros. WB has looked at insurance deals in the past but is not currently considering any, sources said, although the studio declined comment. Aon and CNA both declined comment.

Heath also wants to expand the size of the slates covered by its policies, Bassett says. Indeed, aside from its policies for MGM and Phoenix, Heath’s deal with Paramount Pictures has insured 12 pics so far including “In & Out” and “Face/Off,” among others, sources said. Paramount declined comment.

Bassett said he can do 20-pic deals and noted that Heath “would like to do a minimum of eight.”

One film lender said the insurance deals done to help film financing will increasingly involve policies covering big slates of pics produced by indies based at majors to ensure that the individual indies have enough capital.

Still, the big question is whether the insurers will stand behind their policies as claims flow in. Bassett said Heath has paid claims on policies written for a couple of independents he declined to identify.

But the biggest claim to date is looming on Phoenix’s policy, which covered pics such as “The People vs. Larry Flynt” and “The Mirror Has Two Faces.” Bassett says that while income is flowing in from those pics, “at this point in time it looks like there will be a claim on that slate of films.”

He added that Heath had notified the insurers who took on the policies and a reserve has been created for the losses. Bassett said Heath was now focusing on writing more policies, so that the potential loss on the Phoenix policy can be offset by other policies. Phoenix declined comment, citing confidentiality restrictions covering its deal.

Bassett said Heath expected to get claims. “You can’t expect a policy not to have a claim,” he said, but added that Heath spread its risk partly by writing as many policies as it could between different clients. He said Heath has done “over $300 million of (insurance-related) financing” so far.

“There is an element of risk,” Bassett acknowledged. He said Heath, and the insurers who underwrite its policies, try to minimize risk by following “disciplines” that he declined to specify for competitive reasons.

John Miller, managing director with Chase Manhattan Bank in Los Angeles, said insurance policies are a “terrific product” if done properly. “If it’s abused, then it will be a fad” that will disappear quickly.

Chase has lent money to indies like Phoenix with insurance policies adding collateral. But Miller said Chase’s attorneys scrutinize the policies carefully to ensure the policies are “bulletproof” and don’t contain loopholes insurers could use to avoid paying claims.

He adds that, from Chase’s perspective, the insurance “is a secondary form of repayment. We have to believe that the probability of getting repayment on the performance of the films is good.”

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