MAY 2000





The Dream
Is Much Better Than The
That Results

In a 2000 article for the Cannes Film Festival, Greg Bernstein's analysis of the marketplace indicated that a stabilization in the film economy had started, due to both renewed buying from regions that suffered economic depression in prior years and, more importantly, the fact that less film product was being produced, due to a shortage of financing. Yet Mr. Bernstein believed that this trend had only started and much more fallout in the marketplace was needed before the indie film economy recovered.

Greg S. Bernstein

A year ago my annual financing article for this publication discussed the fact that 1999 was going to be a tough year for independent films as the oversupply of product would continue to hammer prices, scaring off most traditional forms of film financing. Unfortunately, 1999 was more than just a tough year for Indies; it was a disastrous year for independent films. Prices continued to fall, buyers had their pick of any number of similar films leaving many films unsold, and financiers packed up their money and hunkered down for a long winter.

While my advice in years past has been more specific with details on the latest finance programs available to the community, this year's advice is rather succinct: survive.

As we all know, prices continued their decline through much of 1999, with many films failing to find distribution at any price. Buyers realized that with so much product in the marketplace, they need not pay as high a price for their purchases, let alone even think of having to prebuy a film to assure themselves of adequate product. As lenders and other financiers realized that many of their loans were not going to recoup, they backed off of their liberal gap lending practices, requiring more presales, not less, for all new loans. Thus, by late 1999, presales, gap financing and insurance backed loans became as rare as vinyl LP's and 8 track tapes, resulting in few Indie films going into production.

Today, the Indie producer faces a daunting task to raise traditional, and even not so traditional, financing for an Indie film. But the failure of most producers today to find financing, or to be able to sell their existing product, is actually the solution to the economic crisis the Indies find themselves in today.

The lower prices resulting from an oversupply of film product is a traditional economic result that one would expect from any commodity. The latest round of oil price hikes is the inverse of such phenomenon, with demand exceeding the supply thereby causing increased prices. While some may think of films as something quite different from oil or soybeans, the fact is that they are not. Supply and demand are the cornerstone of every transaction, whether traded on the Chicago mercantile, sold at the corner grocer or at the Cannes Market. The rarer the item, say a diamond, the more one is willing to pay for it. The more common the product, say salt, the less one is willing to pay. With most Indie product slated for television or video, despite the best intentions to the contrary, and a finite number of programming hours, theaters or video shelf space available, buyers had their pick of an untold number of similar entertainment to choose from to meet their scheduling needs, all with similar story, cast and production value. With so many choices, the differentiation between films really became one of price and relationships. The fact that desired films (not desired in terms of quality but quantity) are common and not rare has caused film prices to fall. However, just as oil prices can be increased or decreased by decreasing or increasing supply, so too can or will film prices increase or decrease with changes in its supply. The only difference is that with films, the supply of films increases or decreases based on the availability of financing to make such films, not the whim of a cartel to open or close the spigot.

Clearly, in 1997 and most of 1998 gap financing made film production easier than ever. Insurance backed financing, which took off in late 1997 and continued until mid 1999, helped finance those films that could not meet the rather loose parameters applicable to gap financed films, thereby further increasing the supply of product.

The tightening of the finance market for films, which started in early 1999, has and will continue to result in less product being produced which in turn has, for now, at least resulted in a stabilization of pricing. As the finance drought continues, eventually so little product, relative to its demand, will be produced, such that prices will in fact rise. If a serious shortage of product occurs as buyers compete for product presales might actually return to be the norm.

Due to a number of factors, I don't see such a resurgence in prices and buying habits until late 2000 or early 2001 at the earliest. The reason that we still have almost a year, at least, before we see any significant change in the market, has to do with the fact that the supply of product is still high. The lessening of production is not yet really being felt as most of the product commissioned a year or so ago, before film finance became tight, has only recently entered the marketplace.

While gap loans became tight early last year, insurance backed lending continued until the fall of 1999 when the full extent of the potential losses from insured loans originated in 1997 became apparent. As the reality of the number and magnitude of the claims that would likely be made in 1999 and 2000 became known, insurance companies almost overnight stopped writing new policies and sought out ways to avoid any further exposure on existing policies. Several insurance companies have sought redress through the courts to either nullify their obligations entirely or to cancel the obligation to insure any more films that may still be made under policies already issued (most insurance backed programs were for a group of films to be made over a period of time).

In the fall of 1999 Axa Reinsurance brought suit in New York against Chase Bank for declaration that the policies Axa had issued to insure development and production loans to George Litto Productions were, essentially, null and void. While Axa did not take the step of trying to renege on policies that were issued for films currently in production, it was seeking to withdraw any further guarantees of films that had not yet commenced production. In addition to the New York suit, Axa and other insurance companies have brought suit in London to withdraw participation in other insurance-backed programs. While not all insurers have in fact discontinued insuring motion picture loans, with the uncertainty that these suits have raised concerning whether the insurance companies will or won't pay claims when the time comes, most banks have themselves become skittish about such programs and are not accepting the few insurance policies that remain.

While the insurance backed production loan is not viable today, and there certainly will be some fallout with some insurance companies no longer providing policies to insure such programs, once the dust settles from the various claims that are outstanding, insurance backed loans will be back. Those insurance companies that remain in the marketplace or those that enter the marketplace for the first time, will certainly reconfigure their programs to lessen their exposure but have no doubt that such finance methods will continue. Live and learn you might say. However, for now, insurance-backed loans are not a financing option.

So with gap financing tight, presales rare and insurance backed loans non-existent, it has become very difficult to finance any Indie film. This will be the case until market forces cause prices to rise, thereby making the risk of production lending less uncertain. So while one is waiting for the economy of independent films to improve, how does one, today, finance a film?

There is no easy answer to this dilemma. Darwinian forces have taken hold. It is going to be a fight for survival of the fittest. By this I do not mean those producers who make the best films. As I have opined many times, films are simply merchandise. Those that can make product that the marketplace demands, have the ability to produce films utilizing non-traditional finance sources and are able to sell such product at prices that the marketplace dictates, will be the ones who survive.

If we are living in a Darwinian economy, then one must adapt to survive. Change the method of doing business to conform to the realities of the current marketplace. The reality of the current marketplace is that the only product that is selling as an independent film (separate and apart from the high-budget action picture and occasional high-budget drama) is international television product. For the most part, this is genre films with cash budgets of between $2 million and $3 million dollars. Not very sexy. Not very profitable. Not very imaginative. But very doable. An occasional drama or romantic comedy is certainly needed by the marketplace, but such films are far riskier in terms of both trying to finance such a film or sell it once it is completed. If one has the financial wherewithal to make such a film, by all means do so, but keep in mind the realities of the marketplace with respect to recoupment.

The only caveat I would make to this paradigm of producing low budget genre fare is that if a U.S. cable or television presale cannot be made, the budget must be reduced so that the film can be supported based on international sales alone. Unless one has a very strong relationship, an informal output arrangement if you will, with a U.S. cable network, one must assume that a U.S. cable sale, after a film is complete, will be on a non-premiere basis (i.e., approximately $150,000), with video and syndicated television adding to the pot, but still not equally what the U.S. cable premiere might have achieved in terms of revenues. If it turns out that there is a cable sale at premiere prices, then the profits will only be that much greater.

While the thought by most filmmakers of making a cable or television movie, and for that matter one intended more for international television than U.S. television, let alone a genre film, is abhorrent, the fact remains that this is the single area for which there is still demand for independent film product, at reasonable prices, and that such films can be made at reasonable budgets. The choice, therefore, becomes that of making a cable or television genre film or not making a film at all. A number of independent production companies have already recognized this marketplace phenomenon and have undertaken to make mostly genre telefilms. These production companies have existing output agreements with television broadcasters or are recognized by the international television buyers for their consistent product, thus making sale of such product less daunting. This recognition allows such companies to pull together enough presales and other financing to make these films. Their business model tends to be to make enough cable and television movies to keep their operations going so one or two potential theatrical films can be made. But these companies recognize that the market for theatrical product is very limited. Around the world, the box office is dominated by the studio level film. Certainly, a low budget or moderate budget genre film will not complete in this marketplace. So the lower budget genre picture must recognize itself for what it is : TV and video product. It must be made for a price that can be supported based on the market for it, or not be made at all.

Dramas, comedies and other non-genre films have an even tougher time. They have the potential for theatrical in the limited art house market but, the odds of success are not great. Moreover, what appears in the script and what ends up in the finished product can be quite different. Statistically, to quote a friendly financier to this industry, "the dream is much better than the nightmare that results." Preselling such films is virtually impossible. Finding the equity, tax programs, subsidies, that can finance such films are few and far between. So genre films is what can be produced today unless one has an independent source of funds that is not concerned with the statistical unlikelihood of success.

If you are an independent producer not affiliated with companies that are already recognized by the international television buyers, you might consider aligning with companies that are so recognized. Partnering will, at first blush, seen unrealistic and not a palatable option. Why would an existing production company want to partner with an independent producer or vice-versa? The fact remains that finding projects, spending money on development and attracting cast takes time and money. An independent producer who has the talent and funds to develop a project will find that there are any number of production companies receptive to co-producing the right project. As for why an independent producer would want to share their hard work with someone else, the bottom line still remains, survival by utilizing the limited financing that exists.

Aside from partnering or producing genre based telefilms, equity is the only other option in today's market. Equity is that elusive lottery ticket we all seek. Equity can take the form of actual cash investment or may be supplied through use of tax leverage programs, subsidies, rebates or other similar conventions around the world. There are certainly not enough of such programs or equity investors to maintain the level of independent film production we saw a year or two ago. However, there are enough of such programs to support a reasonable number of independent films. The entrepreneurial producer will seek out and take advantage of these programs.

In conclusion, hard times mean difficult choices and no easy solutions. So far, the marketplace seems to be reacting to normal supply and demand forces. As excess supply dissipates, a turnaround in the marketplace, and the financing that is attracted to it, will occur. Only time will tell if the continued resurrection of buyer demand, presales and realistic pricing is a dream or reality.



Reprinted with permission by The Business of Film

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