Now Paying: Film Securitization
February 1, 2013
The narrative in Hollywood films tends to follow a three-act boilerplate — certain things happen to the protagonist at specific points over the course of the movie.
The financial returns on commercial films are never that predictable. Audiences are fickle; technology changes at lightning speed; a star actor draws audiences but also draws an over-the-top salary — whatever the reason, forecasting the net return on a movie can seem like anyone’s guess.
It shouldn’t be shocking then that a number of film-rights securitizations that came out in the mid-2000s slapped junior investors with steep losses.
Not unlike the last survivor in a horror movie, those who took the fewest risks upfront — the senior investors — may have been rattled by what happened to those lower on the capital structure, but they ended up doing fine for the most part.
Everyone, we can assume, is wiser now. But there is still discussion about what structural features, if any, should be rethought to attract new junior investors, or to convince former disgruntled ones that the sequels of the mid-2000s deals are more apt to have Hollywood endings for everyone.
Historically, the large filmmaking studios have looked for ways to smooth out the volatility of their revenue streams. We’ve all heard of the blockbuster with a monstrous budget that nearly sinks an established studio when the movie bombs big-time. One of the most high-profile disasters of our time, the sci-fi mess “John Carter,” was the primary catalyst of the Walt Disney Company’s loss of $84 million in the quarter ending March 2012, according to news reports. Rich Ross, the head of Walt Disney Studios, resigned shortly thereafter, apparently as a result of the film’s spectacular failure.
One of the ways for studios to mitigate these risks is to bring financing partners on board. In co-financing arrangements, a studio surrenders a share of the film rights — and the vicissitudes related to a movie’s performance — while maintaining the distribution rights, which is a percentage of the gross receipts. As integrated entities, studios not only make films, they also own the distributor of those same films. This obviously creates a huge incentive to hang on to the distribution fee.
“Studios feel that the distribution fee compensates them for the large distribution overhead they have to maintain in order to exploit the films produced,” said Richard Reiner, the owner of Shooting Star Pictures, a shop that specializes in structured investments in film and media.
The distribution fee is also a more predictable flow for studios.
Co-financing can involve a single film, a slate of future productions or movies at varying stages of production, or a library of films that have already been released and have something of a track record.
Many other arrangements are possible as well, including vehicles that seek to profit from tax incentives.
In the case of independent studios, known simply as independents, deals often have to be structured in a way that reflects an arrangement in which the distributor is not part of the company that made the film. As a result, a producer will pre-sell the film to distributors here and abroad. “Independent deals tend to have more parts as opposed to a studio deal, [where] you’re the investor and you have one partner in the deal,” Reiner said.
Securitization was a natural evolution from co-financing arrangements, particularly for studios and independents looking for longer-term funding.
The seed was planted in the mid-1990s. In November 1995, Citibank closed New Millennium, a $1 billion transaction for 20th Century Fox. “New Millennium was really the first deal of this type to utilize the structured finance and securitization technology we know today,” said Patrick Russo, senior managing director of FTI Consulting. He was until recently a principal co-founder at Salter Group, which joined FTI in early January. The Salter Group specialized in forecasting and valuing intellectual property rights in the entertainment industry and other sectors.
A couple of years after New Millennium came a slightly larger deal for Universal called Galaxy Film: $1.1 billion. Galaxy funded a combination of pre-sales and Universal’s own estimates on their movies’ returns. Although they used securitization methods, these transactions were still bank deals, according to Reiner.
The embryonic securitizations that appeared in the mid-’90s were a recognition of the benefits of diversification. As a Merrill Lynch report from 2006 put it, they reflected the notion “that the portfolio theory of stocks could also be applied to films.”