Hidden treasure

There are no clear new sources in pic finance

The results are in, and we hope they’re on the money.

Variety‘s first indie finance survey confirms several recent developments in the nonstudio world and reveals some new insights. We had a 62% response rate, with more than 30 companies (mostly U.S.) from all walks of the indie biz sharing their digits — from budget ranges to how they gathered or attributed financing.

Given the current concern about possible inaccurate corporate financial reporting, let’s first make the disclaimer that our results were based on numbers submitted directly by senior company executives. Names and affiliations of those surveyed were kept anonymous to encourage truthful responses, but we can’t guarantee there wasn’t any fibbing.

Nonetheless, the results are notable.

In line with the current financing climate, our survey confirms that indies are tapping a wider array of financing sources. But despite the popularity of soft financing, the biggest slices of budgets can still be attributed to private equity, foreign pre-sales and domestic pre-sales. For low-budget films (under $10 million), private equity rates tops; for medium- ($10 million-$25 million) and high-budget (above $25 million) pics, foreign sales loom largest. The latter is surprising given the much ballyhooed demise of the foreign biz. Then again, the percentages used to be higher.

In any case, foreign sales aren’t dead. When we asked execs what types of finance are in and out of vogue, foreign pre-sales ranked as No. 2 in the “out” category, behind insurance-backed loans. But on the “in” side of the equation, foreign pre-sales took the No. 3 spot, after tax shelters and private equity, at Nos. 1 and 2, respectively.

Obviously, the responses depended on the companies from which they came. To put some of the trends in context, we followed up with survey respondents and consulted key indie dealmakers to flesh out some of the hottest talking points.

Money fads

Producers have seen some wild new financing options in the last decade. The ’90s witnessed the rise of the international market, insurance-backed loans, the German Neuer Markt companies (who started paying huge sums for Teutonic film rights) and tax schemes.

Many flamed out pretty quickly. Notes Comerica banker Morgan Rector, “The only thing that’s left of insurance-backed financing is the litigation.”

The new Teutons crashed and burned after their IPO money ran out and stock prices fizzled. Their demise, along with German rights giant Kirch Group, precipitated the downturn in the foreign market as one of the largest territories for film outside of the U.S. virtually stopped buying product.

Soft options?

Now the latest craze, soft financing (from subsidies to tax funds), looks as if it’s about to get squashed — or, at least, much more limited.

Accessing German tax funds, the largest soft-money source in recent years, could get more complicated by the end of this year. These setups, which allow German taxpayers to offset some of their tax burden by investing in film, are threatened by proposed legislation. There’s a call from German politicians for a number of changes that would make it much less attractive for investors and more difficult for non-German films to participate. Though the new regs likely won’t be voted on until after Germany’s elections in September, most observers smell doom.

“I think they will first try to kill these types of structures and then create a system through which you can get tax benefits if you spend (your budget) in Germany,” says Robbert Aarts, co-CEO of collection account manager Fintage House. “But as long as the old rules are still in place, nothing has changed.”

Tax shelters in other countries such as the Netherlands have become more difficult to tap. The Dutch plan put a cap on budgets and capital raised per annum, plus local production requirements and red tape were increased. A new scheme is under way in Belgium, but it will likely have restrictions similar to the Dutch setup. New tax schemes also could be on the boards for Austria, Italy and Spain.

Subsidies are less lucrative and more difficult to structure, but for some creative producers, hard work and research still pays.

“You can find subsidies separate from the tax funds. Spain has a co-production incentive in place — not huge, but every little bit helps, especially if you design something as a two-country co-production,” says Kirk D’Amico, prexy, Myriad Pictures, which has Antonio Banderas-Emma Thompson starrer “Imagining Argentina” shooting in Spain as a U.K.-Spain co-production.

More often than not, though, subsidies and tax shelters aren’t an easy fit. Says Moonstone Entertainment CEO Etchie Stroh: “The one big danger is: Does the movie justify shooting where soft money is? One guy asked me if Luxembourg has plains that look like Oklahoma!”

And with no new schemes in clear view, industryites are hard-pressed to guess where the new money will come from.

“Indie finance will remain in a state of uncertainty until we find fresh sources of funding or there is an adjustment in the way the foreign and domestic markets share production costs,” says attorney John Burke, chair of Akin Gump’s entertainment transactional department.

“Essentially, the indie world has been financed by crazy money in the last few years and there’s no crazy money out there anymore,” says Paul Brooks, prexy, Gold Circle Films, which is backed by private coin from Gateway Computer co-founder Norm Waitt.

Equity plays

Private equity, a traditional if unpredictable source of film financing, is starting to play a bigger part in the indie world as recent money-raising fads find themselves on the cutting-room floor.

“The percentage of private equity from (nonindustry) sources is growing,” says Kathy Morgan, chairman, AFMA, a trade org representing the indie film and TV industry worldwide. “More and more we need equity money to make films a reality. Not long ago, pre-sales covered as much as 80% or more. Now it has to be a combination of equity and soft money, especially equity.”

Finding that equity is never easy, especially since the current stock market is in a swoon, but today’s indie producers have two things working in their favor:

First, the money is still out there, whether in the form of high-net-worth individuals who benefited from the stock market boom in the ’90s, venture capitalists or investment bankers.

Second, current investors are smarter than their predecessors because they have more realistic expectations and more information on which to base their decisions. To be sure, no amount of data can guarantee something as uncertain as filmmaking, but it helps to moderate the risk for serious investors.

“Equity investors are becoming increasingly savvy and more scrutinizing of potential transactions,” says attorney Randy Mendelsohn of Mendelsohn Law Office. “It’s become clear that a little bit of money spent thoroughly checking out and structuring a deal can save investors from an otherwise total loss.”

“Over the past 10 years more financial intermediaries have performed financial services for studios and networks, slowly gathering useful data,” says Michael Barnes, founding partner of Barnes Morris Klein Mark & Yorn, whose law firm advises several investment funds focusing on the film and music industries. “They’ve done valuations of (film) libraries, so they know what makes money and what doesn’t. They can do film modeling with real data, like showing the history of rent rolls in a real estate deal. Better tools can lead to better deals. And if they do well, these investors will stay, which means their role will become increasingly important.”

In addition to Gateway’s Waitt, several wealthy nonindustry entrepreneurs have made significant contributions to indie film in recent years, and show every sign of staying, including Microsoft co-founder Paul Allen (Clear Blue Sky Prods.), Qwest Communications founder Philip Anschutz (Crusader Entertainment and Walden Media), Intl. Lease Finance Corp. co-founder Louis Gonda (Lexington Entertainment Group), FedEx founder Fred Smith (Alcon Entertainment), Denver-based financier-philanthropist Robert Sturm (Catch 23); and Dallas Mavericks owner Mark Cuban and entrepreneur Todd Wagner, who have taken stakes in a number of entertainment properties such as Lions Gate Films and Immortal Entertainment.

Though venture capital investment is far from common, GreeneStreet Films managed to find it. “The people we go to evaluate investment as portfolios. We use that analogy in selling a slate of films,” says company prexy and founder John Penotti. “We’ve been able to convince them that there’s a reasonable rate of return for a smart approach to indie filmmaking. ”

Since 2000, GreeneStreet’s investors have backed six films, allowing the company to mix low- and higher-budget fare. “We’ve gone from $500,000 projects to $20 million,” adds Penotti. “We’re trying to spread risk across different types of films.”

Still, for many companies, private equity remains as elusive as its nickname implies: angel money.

Foreign exchange

Soft money and equity might be offsetting a bit of the overseas sales slump, but not enough to change the fate of some foreign rights brokers. Several have been forced to shutter or restructure, including London-based IAC and Germany’s Helkon Intl., and the complaints about troubles continue.

“When it comes to pre-sales we used to always be able to sell a picture for some price, maybe not the asking price, but now it’s shifting to all or nothing — you either sell or not. There’s no negotiation, (buyers) will just wait,” says AFMA’s Morgan, who also runs her own sales outfit, KMI. “It’s a scary way to do business.”

In turn, gap loans are tougher to secure. “It’s more difficult to fill unsold rights with contracts than it has been in the past,” says Lewis Horwitz, CEO of the Lewis Horwitz Org, a division of Southern Pacific Bank. “The size (of gap loans) isn’t smaller but percentage of budget is. We try to keep it at no more than 25% of a film’s budget. Usually 20%, but we go higher if there’s a domestic distribution deal and we look at unsold rights a little closer. If Germany doesn’t prebuy what will you get from Germany after you’ve finished? Now it’s a big question. It takes more analysis. We look at cast, director, producer, genre, and economics of that territory. Then we look at who has licensed film and for how much. We want to have two or three pre-sales no matter what; that kind of vets the deal for us.”

But it’s not all bad, says Steve Ransohoff, exec veep of completion bond company Film Finances: “Lots of films are still being made and getting financed. You just can’t call it in anymore.”

“The U.S. market cross-media is pretty strong,” says Comerica’s Rector, “but the second-biggest market, Europe, is not.”

“Germany at one point (paid) 15% of budget, now it’s 8%-10%, but it depends on the kinds of movies,” says Miramax Intl. chairman Rick Sands.

Overseas buyers remain eager for choice projects from trusted suppliers and the big winners in this game are the larger indies, such as Miramax and New Line, which have created a solid network of overseas distribs and a reputation for a specific type of product.

“The international market has become more important than ever: ‘Lord of the Rings’ did $550 million overseas and $313 million domestically,” says New Line’s prexy and COO of worldwide distribution and marketing Rolf Mittweg, who also admits things could be different in a couple of years. “We are riding a crest right now.”

Bipolar budgeting

Call it the Tentpole Syndrome. With cash-strapped foreign markets buying mostly bigger films with high-profile casts or lower-budget genre fare, indie companies that count on foreign pre-sales for a chunk of their funding have no choice but to follow suit: stick to a low-budget niche or make fewer, and bigger, films.

It’s having a polarizing effect on budgets, making the medium-budget pic an increasingly rare breed.

“You either do a picture for under $10 (million) that has some artistic merit that would become a festival pick and get good reviews or (a film) above $30 million that can be considered a tentpole pic, which is what buyers are looking for,” says Mark Damon, chairman-CEO, MDP Worldwide. “The dangerous range is ($10 million-$30 million).”

Proving that the lower-budget range is foreign pre-sale poison is Myriad Pictures’ “The Good Girl.” The sales outfit decided to move into bigger budget fare after its experience with the under-$10 million pic starring Jennifer Aniston that Fox Searchlight opens Aug. 7. Despite Aniston’s star power, Myriad couldn’t presell it abroad.

“We were fortunate enough to use German and Dutch tax fund financing to make the picture, but we couldn’t pre-sell,” says Myriad’s D’Amico. “It’s a small story set in a small town — the subject matter held us back. One of the things happening now is we’ve moved away from smaller, quality, specialized films into bigger, more commercial films because those are the only ones we can pre-sell.”

There’s even a situation now where if a studio has domestic rights only, it will step in piecemeal in certain countries if a film is having trouble selling to indie distribs. “Studios are mopping up territories that aren’t sold to make sure a movie gets made,” says Doug Hansen, senior veep, corporate finance, entertainment, Union Bank of California.

New world

While most everyone laments the state of the business, industryites are admitting that the downturn will net better pictures.

“Today it’s a different world, it’s a change for the better,” says Infinity CEO Michael Ohoven. “Movies that were financed two years ago would not be made today. Not all movies need to be made.”

“We went through a period where even if a film was going on five cylinders you could still do well,” adds Alliance Atlantis CEO Peter Sussman. “Today, if you’re not going on all eight cylinders, abandon it. ”

The general shake-out is a good thing for the industry. Those who greenlit too many of the wrong movies or accepted coin from shady sources have, or will soon, be forced to exit the biz. It paves the way for new entrants and makes those still doing business stronger.

“The business has been harder on one level,” says Mutual Film co-principal Gary Levinsohn. “There are fewer solvent players left, but also fewer competitors.”

“The indie film world will shrink,” predicts William Immerman, senior exec veep and COO at family pic specialist Crusader Pictures. “Those that survive will develop a niche and … fill specific needs for specific buyers. The general foreign sales company that sells a little bit of everything to everybody will have a difficult time.”