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MOTION PICTURE INDUSTRY OVERVIEW INCLUDING THE HISTORY OF INDEPENDENT FILM FINANCE
Introduction
:: Structure
:: Elasticity Attributes
:: Barriers to Entry
:: Seasonal Revenue Cycle
:: Persistent Entrepreneurial Character
:: Extraordinary Profit Potential
:: Noneconomic Characteristics

Industry Structure
:: The Major Studios
:: The Independents
:: Foreign Territories
:: Films Markets and Festivals
:: The Financiers

Production

Distribution
:: The Five Species of Distribution Deals
:: Theatrical Distribution
:: Videogram Distribution
:: Television Distribution
:: Pay-Per-View/Video-On-Demand
:: Nontheatrical and Other Ancillary Rights

History of Independent Film Finance
:: The Studio System
:: The Advent of Sound
:: Early Motion Picture Finance
:: Hollywood Conscripted
:: The 1950's and 1960's: Genesis of Modern Independent Film Finance
:: The 1970's
:: The Booming 1980's
:: The 1990's
:: The Millennium
:: 2002
:: 2003
:: 2004
:: The Future

DOMESTIC FILM INDUSTRY TIMELINE

FILM INDUSTRY STRUCTURE

NEGATIVE PICKUP AND PRESALE FINANCING

THE 2004 FEDERAL TAX INCENTIVE FOR MOTION PICTURE PRODUCERS

PASSIVE ACTIVITY INCOME AND LOSSES

AT RISK LIMITATIONS

Structure. The structure of the industry is best described as a modified oligopoly. More specifically, it is an industry populated by a small number (seven to 11) of production/distribution/financing titans - the major studios, which in some respects circle around and interconnect with a more numerous collection of specialized service and production firms. These specialized firms consist of the powerful creative forces in Hollywood - actors, producers, directors and writers, as well as the many independent production companies that contribute financing, foreign sales and "soft money" arrangements, and strategic relationships to the filmmaking and marketing enterprise. The nature and character of the major studios and the independents, broadly understood, are perpetually in flux. The universe of film is constantly creating and recreating itself as trends emerge and fade, as territories and markets react to internal or external forces, and as new technologies supersede older ones.

Elasticity Attributes. A second unusual economic aspect of the film industry is the paradoxical nature of pricing and other elasticities. Some economists argue that, given a threshold level of marketing and publicity, revenues from theaters, video stores, etc., are price inelastic; i.e., changes in ticket or store prices do not affect demand either positively or negatively. A related phenomena, for which there is also some statistical evidence, is that movie revenues are rescession-resistant, at least in the early stages. However, there are many factors other than price that create unpredictable elasticities and thus widely influence the consumer's decision, including film genre or genre blend, narrative qualities, actor talent, producer or director talent, demographic targeting, film rating, and critical review, to name a few. Studies show what may seem obvious - that these variables have substantial impact on the consumer's decision, and that audience tastes and distastes are ever-changing. Although there is limited evidence to the contrary (e.g., the direct-to-video boom in the 1980's), movies are not assembly-line goods whose revenues are primarily a function of price, nor do their revenues have any direct or predictable relationship to consensually recognized notions of quality.

Barriers to Entry. Two chief barriers of entry are present in the film industry. First, movie "negative costs" (i.e., the total cost of producing a movie, or "budget") are high, to say nothing of the cost of marketing and distribution, which sometimes equal the budget. While theatrical quality films with respectable production values in some cases (depending upon locations, sets, action, etc.) can be produced for under $1.0 MM, the average budget for a studio film today is $59.0 MM. A second barrier is simply the array of skills, specialized knowledge and experience required to professionally produce a high quality film. Film is both a collaborative art and a capital and legal intensive business; it therefore requires contributions by both artists and service providers (film talent, production and post-production talent, etc.), and business and legal professionals.

Seasonal Revenue Cycles. The peak times for theatrical admissions are the holidays, President's Day, Easter, Thanksgiving, and Christmas/New Years. Additionally, the summer is generally a peak period, especially the holidays Memorial Day, Independence Day, and Labor Day. As a result of this concentrated demand pattern, the major studios and distributors plan their marketing campaigns and strategize release dates far in advance of the theatrical opening. Films compete fiercely for audience dollars during the high demand weeks, and the consequences are increased advertising, publicity and distribution costs. Successfully distributing an independent film with a limited advertising budget in such an environment requires expert planning and advice.

Persistent Entrepreneurial Character. Another remarkable aspect of the film industry is that it has retained its entrepreneurial nature for more than one-hundred years. Commentators have suggested this is a function of its dynamic character: power is continuously re-distributed among the many creative forces and powerful independent organizations; business models become obsolete and are replaced with new market conditions and technologies; and audience desires frequently change. For the studios this aspect of the industry is an unhappy truth, but for the independent, it is an eternal source of new opportunity windows to secure a niche, outperform the competition, and invent new franchises, talents or genres.

Extraordinary Profit Potential. Corollary to the high-risk nature of film investment is its high-profit potential. The exceptional profit potential is a function of several factors. First, many films are "research and development" products; they cannot be test marketed and therefore the marketplace generally cannot predict the success of a given film. There are many examples of box office smashes that were shot on shoestring budgets or were rejected by many studios before their ultimate release. Second, films have "sunk costs," and require modest incremental expenditures to obtain revenues in windows subsequent to their release in the primary media of theatrical, pay-per-view and homevideo. When properly engineered from a marketing and sales standpoint, a film's profit potential can be dramatically enhanced by the utilization of additional revenue sources such as product placement, merchandising, videogames, and soundtracks. Finally, the dynamic foundation of the film industry - in terms of technological evolution, global market changes, and shifting cultural sensibilities - is fertile ground for savvy professionals and artists seeking to satisfy unfilled demand and create lucrative revenue streams.

Non-Economic Characteristics. Additionally, there are several non-economic characteristics of the industry which are extraordinary. As an art form, film is unique in that it is an amalgam of the assorted other visual, literary and performing arts, including drama, photography, cinematography, the fine arts, music and literature. This amalgam-quality of motion pictures equips the medium with a vast, expansive reach - in terms of available sources from which it may draw in the conceptualizing and development stages, and in the demographic and geographic makeup of the end-users. Second, motion pictures are omnipresent in modern industrialized societies. They are regarded by many as the most powerful form of communication, with a "collective perception" character, and the capacity - according to media critic Marshall McLuhan - to "unify and re-tribalize" the human race. Finally, as films are both cultural and commercial enterprises, the business of film is acutely impacted by political, social and aesthetic factors and trends.

In addition to an overview of some of the industry's most notable qualities, an elucidation of the industry's structure and a description of its two chief components are helpful. Like other industries which manufacture and supply goods, the motion picture industry consists of two broad spheres of activity: production, and distribution. Production includes the development, packaging, pre-production, principal photography, and post-production of films. Distribution consists of: marketing (including advertising, publicity and promotion); licensing; production and delivery of tape, film and media software; collection of receipts and contract administration; and exhibition or broadcast. These two distinct areas are described in some detail below. Finally, this overview will examine the evolution of the industry, training its focus on the development of independent film finance, in order to shed light on how successful independent producers approach their craft.

INDUSTRY STRUCTURE

The worldwide film industry is and has been dominated since its inception, with few exceptions, by the American major studio-distributors. Within the field populated by these giant players are a host of production and distribution operations and entities, commonly described as "independent," in the American marketplace. These players vary widely in size, function, capitalization, and operations, many of them "niche-oriented" providers of products and/or services, and many of them accurately described as "opportunistic producers" - i.e., businesses or individuals which are not dedicated fully and continuously in the business of producing films, but which may under certain circumstances undertake production. The latter may take the form of management companies, equipment rental businesses, sales agents, casting companies, loan-out companies (for actors, directors other key creatives), and financial managers, among others. Niche-oriented providers of feature films typically are producers who have established relationships with one or more buyers who trade in films of a specific genre or genre-blend, such as cable networks and video distributors. Generally speaking, regardless of the nature of the producer - whether "opportunistic" or dedicated exclusively to production and/or distribution - theatrical distribution is the gateway into the land of multiple media, worldwide revenue streams. This remains true today, even though homevideo revenues for any given project can easily double or triple the producer's take from theatrical. A successful theatrical run, however, usually requires a costly marketing campaign, and as a practical matter, the great majority of the independents look to the major studios and "micro-studios" to provide most, if not all, of the financing necessary for such campaigns.

The Major Studios. The most conspicuous players in the film industry, in both the production and distribution spheres, are the American major studio-distributors: Twentieth Century Fox, Paramount, Sony Pictures (which owns Columbia Pictures, Tri-Star, and in part, MGM), NBC Universal Studios, Warner Brothers, New Line Cinema, and Walt Disney Co. (which owns Miramax). The majors are owned by huge, diversified multinational conglomerates: Fox is owned by News Corp., Paramount by Viacom, Sony Pictures (and Columbia/Tri-Star/MGM) by Sony Corp. of America, NBC Universal by General Electric, Warner Brothers and New Line by Time Warner, and Walt Disney Pictures and Miramax by The Walt Disney Co. The parent corporations are conglomerates with diverse revenue streams and other media interests. All of the majors except Sony own or are affiliated with major television networks: Fox and Fox Network; Paramount and UPN and CBS; NBC Universal Pictures and NBC; Warner Brothers/New Line and WB Network/TNT; and Disney/ Miramax and ABC.

The Independents. The industry businesses and individuals engaged in the process of producing and distributing film find themselves in competition or allied with the major studios. Throughout the history of the film industry, the independents emerge from obscurity into the limelight, sometimes for short-lived victories, sometimes for stratospheric rocket-rides, and sometimes - given enough of the right stuff and just enough luck - they subsist long enough to merge into or even supplant one of the majors. Indeed, the major studio-distributors today are the successors to the first generation of independent producer-distributors, who colonized Hollywood in the 1910's. The terminology used to describe the large independents varies from decade to decade: the "little 5" in the 20's, the "mini-majors" in the 80's, the "quasi-indies" or "macro-studios" of present day. By "independent producer," industry commentators mean not only well-capitalized, going-concern companies, but also the many individuals who develop and package film projects with little or no staff, and who obtain single picture financing for single purpose production companies, producing each picture separately. The meaning of independent producer is as broad and evasive today as it has ever been, as the past decade has been a great period of reengineering of the relationship between the major studios and the non-employee producers and film company affiliates with whom the studios do business. The past fifteen-years have also been a period of tremendous growth - and at times chaos and confusion - in the foreign markets, which naturally had important consequences for the studios and their independent partners.

Foreign Territories. The great majority of foreign revenues flow from ten foreign territories: the U.K., Japan, Germany, France, Canada, Spain, Italy, Australia/New Zealand, Holland/Benelux Countries and Mexico. The value of a foreign territory is not purely a function of its population, but it is a product of the condition of its consumer economy, technological sophistication, and the development of its media industries. Among the most relevant factors are the penetration of television sets, digital cable/satellite television, and addressable boxes.

The U.S. majors have overseas distribution arms that compete with the foreign studios and distributors: Universal Pictures (UIP), Disney's Buena Vista Intl., Fox Intl., Warner Bros. Intl., Columbia Tristar Intl. and New Line Intl. Naturally, there are major studio-distributors overseas as well, although their distribution markets are to some degree restricted to their own borders due to cultural, political and economic factors. Among the largest foreign studios and distribution companies, by territory are: UK - BSkyB, Redbus and Optimum, BBC4; Japan - Nippon Herald, Gaga Comms., Toshiba and Shochiku; Germany - Senator, Helkon and Kinowelt; France - Pathe, Gaumont; Spain - Sogecable; Benlux - A-Film, RCV, Elysee Films and Kinepolis Film Distribution; Scandinavia - Svensk Filmindustri; and in Australia - Icon and Village Roadshow. In the 1990's there was explosive growth in the overseas markets, due in large part to a sudden escalation in demand for high-quality films for distribution on foreign television. The surge was followed by a string of crises, domestic and foreign, which had powerful global ramifications. During this tumultuous period of growth, development and uncertainty, the American majors and their "independent" partners and affiliates came to dominate the foreign presale marketplace, effectively eviscerating it. True, independent-financing of low and medium-budget pictures via foreign presale financing virtually ended. During that period, the more successful indies were absorbed by, consolidated into, or put in league with the majors.

The end of pure foreign presale (or "discountable contract") financing did not, however, diminish the importance of the foreign marketplace. Approximately one-half of total film revenues today derive from the overseas markets. Consequently, maintaining relationships with the many foreign territories is crucial to production and distribution companies, which either employ personnel dedicated to foreign sales, or hire specialized contractors - foreign sales agents, foreign rights companies and producers representative outfits. The activities of foreign sales agents and other personnel are most conspicuous in the film markets and festivals, although their duties are not limited to those arenas.

Film Markets and Festivals. Currently, the largest motion picture markets are MIFED, the Cannes Film Festival, in Cannes, France (May), and the American Film Market, in Santa Monica, California (November). Through their foreign sales personnel, agents or reps, independent producers use these markets to consolidate their meetings with the major foreign distributors, to explore presale licensing arrangements with smaller territories, and monitor the international marketplace. Similar to the film markets in some respects, are the several hundred film festivals that take place annually around the globe. The two best known festivals are Sundance and Cannes (as much a market as a festival). Although festivals are a venue for producers with completed films to attract buyers (and a marketplace for distributors in acquisitions mode), their utility in attracting film finance is extremely limited.

The Financiers. The major studios fund their productions out of current revenues, advance payments, credit facilities with banks, venture capitalists, and public and private offerings. Independent companies finance the films from a variety of sources, including arrangements with studios, domestic and foreign distributors, banks with entertainment lending sections, private offerings, other specialized lenders, investors and venture capitalists, private placements, and rarely - via public offerings. This full array of financiers, finance professionals, and their allied service companies and institutions comprises a substantial portion of the population of film industry players, and its makeup changes from time to time as new trends emerge, tax and trade laws change, and economic conditions develop.

PRODUCTION

In its broadest sense, "production" of motion pictures consists of five stages: development, packaging, preproduction, principal photography, and post-production. The cost of making a studio movie rose 9% in 2003 to an average of $64 MM; the average cost of a picture produced by a studio subsidiary or affiliate was $46.9 MM.

Development. The first of the five stages of production is known as "development." Essentially, development refers to the sum of all efforts that yield a shootable film script, including in-house story development, the review of scripts submitted from writers outside the studio or company, the hiring of writers and consultants to write, analyze and rewrite, the acquisition of finished screenplays or other literary properties for adaptation, and the obtaining of the necessary licenses, releases or other legal instruments necessary to obtain rights to complete the development process and film the final screenplay. Inside large development/production companies and the major studios, creative executives, story analysts and script readers continually review (or "cover") submitted screenplays and treatments. Smaller production companies, independent producers and in many cases studio executive-level producers conduct their own script coverage and other development activities by obtaining rights to stories and literary properties, and/or hiring writers to write drafts or redrafts of particular concepts, treatments or scripts.

Packaging. Simultaneous with or shortly after the process of development begins, the producer(s) and other personnel begin the process of "packaging." Packaging is the pitching and dealmaking involved in bringing in the key creative elements: writer(s), director, other producers or executive producers, actors, and in some cases key crew members such as the unit production manager, director of photography or production designer. The large talent agencies are well-known for their ability to offer highly marketable mixes of talent ("packages"), thereby enhancing the chances for production of the film by one of the major studios.

Preproduction. Once commitments are obtained from the key elements, the script can be budgeted, production can be scheduled, necessary financing arrangements can be made, and legal documentation can be drafted and executed - a collection of activities commonly called "pre-production." Other activities commonly occurring during this stage include location scouting, creating screenplay storyboards, final script changes, and completing necessary financing, insurance and bonding matters.

Principal Photography. Pre-production is complete when production personnel begin the process of creating the images and sound that will comprise the completed motion picture. Generally, this will consist of filming the performances of actors, whether on a sound stage or other studio facility, or on location. Increasingly, special effects and digital animation are used in motion pictures, a trend that has significantly moved the process of production into effects and animation houses. Principal photography typically lasts less than three-months, and is followed by the final assembling and compilation of the film's constituent materials into a print that can be exhibited in theaters or transferred to tape for television broadcast.

Post-Production. This final assembly and compilation process - known in the industry as "post-production" - includes scoring of music, dialogue looping, sound mixing, and sound and film editing, including the incorporation of special effects.

DISTRIBUTION

Distribution is the process of commercially exploiting a motion picture. Revenues from the sale or license of rights pertaining to a given motion picture flow from many different sources, including the following:

Revenues from theatrical distribution are the first to be received, followed by videogram and nontheatrical revenues, and finally, television license fees. The timing of receipts of ancillary rights revenues are often unpredictable, and depend on the type of product, marketing efforts of licensees, and factors related to public tastes and trends in popular culture.

Naturally, commercial exploiting a motion picture requires a substantial marketing effort. Chiefly, marketing a film consists of advertising and publicity, and the preparation of sufficient "prints" of the film (i.e., film reels for cinematic projection) to release the picture according to the distribution strategy. The average marketing cost of a major studio film in 2003 was $39 MM, a 29% jump over the previous year, which the Motion Picture Association of America ("MPAA") attributes to a surge in TV ad costs.

The topic of distribution is best approached from two perspectives. First, a description of the basic forms of distribution agreements will provide a launching point for exposing the essential issues common to all distribution arrangements: development and packaging financing; production ("negative cost") financing; distribution (prints and advertising capital) financing; identity and type of producer(s); ownership of the film; and creative control. Second, an examination of the categories of commercial exploitation and their associated costs is a useful framework. This overview will focus on domestic distribution and ancillary media, rather than foreign distribution.

The Five Species of Distribution Deals. Although there are hybrid arrangements existing today as a result of the new business models which developed in the last ten-years (e.g., the "financing producer," studio "co-financing," and "micro-studio" or "quasi-independent" arrangements), fundamentally there are five classes of distribution arrangements.

Theatrical Distribution. Last year (2003), total theatrical receipts in the U.S. and Canada were $9.5 BB. The total number of moviegoers has increased steadily over the past three years, and last year the average moviegoer attended 5 movies, representing a 27% increase in admissions over a ten-year period. The total number of screens last year was 35,786, which reflects a 50% increase since 1990. In recent decades, revenues from domestic theatrical distribution have decreased their share of total income derived from all media and rights. This is a result of the surfacing of new media, beginning with home video, followed by cable television and most recently, the entry into the marketplace of satellite broadcasters. Despite its declining share of total revenues, domestic theatrical distribution is still viewed as the most powerful means of enhancing a picture's gross revenues, given sufficient marketing dollars and release commitments. The average marketing budget for a major studio theatrical film in 2003 was $39 MM. Regardless of the merits of the film itself, an advertising and marketing campaign at this level is a potent revenue stimulus in every medium. A successful U.S. theatrical run stimulates consumption in the other media even further. For those reasons, films that have theatrical distribution guaranteed by the majors, or have substantial prints and advertising capital available, have pedigree, and they are regarded as such in the worldwide markets.

Videogram Distribution. Video rentals now total more than $7 billion annually, and annual video revenues (sales and rentals) are estimated at $25 billion. Theatrical films are typically released for home video distribution between five and six months after commencement of their theatrical run. The explosive growth period of homevideo in the 1980's saw the rise of both video distribution companies and the franchise-rental business. Of course, homevideo media no longer is restricted simply to videocassettes, but includes digitized formats such as laserdisc and DVD, or in industry parlance, collectively "videogram."

The industry's newfound glory is DVD revenue, which has exploded in recent years: in terms of units sold (either for rental purposes or direct to consumers - "sell-through"), this medium shows a 1000% increase between 1999 and 2003. In 2003, among households with televisions, DVD has a 43.1% penetration rate, a 260% increase from 2000. The average price for a DVD in 2003 was $20.15. Industry analysts predict continuing growth in this area as new media emerge and new consumer outlets materialize in the marketplace.

Videogram distribution rights are generally granted to the theatrical distribution entity, in the case of a film intended for theatrical release. Where the first exhibition rights are licensed to a cable programmer for cable television premier (USA, Showtime, HBO, etc.), video rights are likely to be granted to the programmer. Most commonly, video distributors pay the owner of the video distribution rights a royalty from their wholesale revenues, usually 20%, less deductions for the distribution fee (which varies from 15 - 35%) and expenses. Under another common scenario, the first-exhibition theatrical-distributor or cable programmer receives a share of net profits from the entity responsible for home video distribution, and then pays a royalty (in recent years, 20%) on proceeds to the production company. Finally, where the first release rights are licensed to a home video distributor ("direct-to-video"), the video distributor may pay the production company in a manner analogous to a theatrical distributor: i.e., collect gross receipts; subtract a distribution fee, expenses and costs; and pay net profits to the production company.

Television Distribution. In the U.S. and Canada, there are 108.4 MM households with televisions, airing a total of 283 cable and satellite channels, an increase of 372% since 1999. Households with basic cable service reached 73.9 MM in 2003, a penetration rate of 68.1%; households with "pay cable" (wired cable households subscribing to premium channels or expanded basic service) penetrated 36.9% of TV households, with a 40.0 MM total.

In the United States, television broadcast rights are granted first to pay television services, which include: (1) "premium"cable channels (HBO, Showtime, etc.); and (2) pay-per-view services via terrestrial cable systems ("CATV"), direct-broadcast satellite ("DBS" - DirecTV, Echostar, TVN, etc.), and satellite master antennae television ("SMATV"). Pay-per-view exhibition frequently trails videogram distribution after a 30-60 day window, and is followed by basic cable and/or network television broadcast, and then exhibition on local broadcasts stations via syndication.

Most premium channels will only license films that have been distributed theatrically, although occasionally a film will air on a premium channel before receiving a theatrical release. Distribution fees for sales to premium channels range between 10% and 20%. Films which prove themselves at the box office may also garner significant license fees for primetime network television (ABC, CBS, NBC, UPN, WB) broadcast. Network TV broadcast may occur within twenty-four months of the film's theatrical release, depending upon the network's assessment of audience demand for the film. A sale price for two primetime broadcasts in the neighborhood of 25% of box office gross is not uncommon. A final source of television revenues lays in non-primetime network broadcasts, smaller cable outlets and syndication. Fees for these aggregate rights are comparable to those for primetime television, although they will be subject to deductions for a distribution fee and expenses.

Pay Per View/Video-On-Demand. PPV systems allow customers to order broadcasts of select movies from a menu of set times, via satellite or cable television. The number of households with "addressable cable" (set top boxes that can be tracked to an exact location in the home, usually for pay-per-view purposes) reached 36.0 MM in 2003, a penetration rate of 33.2%. Digital cable allows for more advanced services, such as video-on-demand ("VOD"), and in 2003 there were 24.5 MM subscribers, reflecting a 15% increase over 2002 and a penetration rate of 22.6%. VOD is more sophisticated form of pay-per-view, which allows the user to order a film at any time, to stop, rewind, and forward it during playback at will, and even to copy the film. VOD claimed 9.5 MM subscribers in 2003 with a penetration rate of 8.8%.

While these "feevee" technologies have not come into their fullness as yet, last year saw very significant gains in revenues for theatrical features, reaching $1.8 BB. However, feevee revenues still pale in comparison to homevideo's $13 BB last year, and subscription (premium cable) TV's $10 BB, and therein may lie part of the reason for its sluggish development. Studios are reluctant to chip away at these other lucrative profit sources in favor of an uncertain performer; resultingly, the studios have been slow to license their product on reasonable terms to feevee distributors, and have demanded that the feevee window take a third position to theatrical and homevideo, a substantial competitive disadvantage. However, some observers are optimistic about feevee services, particularly VOD because of its superior attributes, and believe that increasing digital cable box penetration rates will continue to increase feevee's share of feature film home consumption dollars.

Nontheatrical and Other Ancillary Rights. Nontheatrical exhibition on airlines, in military installations, and hotels generally occurs simultaneously with videogram distribution and/or pay television broadcast. Additional sources of revenue include: merchandising (toys, clothing, housewares and other novelty items); publishing (novelization, screenplay publishing, comic books, documentary accounts, etc.); interactive media (CD-ROM/
videogames, DVD, etc.); and soundtracks.

THE HISTORY OF INDEPENDENT FILM FINANCE

The history of the American film industry contextualizes the history of independent film finance, and is therefore a useful avenue to approach the topic. For brevity, it begins with the development of the feature-film industry - rather than the one - and two-reel silent shorts that dominated the theatrical industry until the formation of Paramount Pictures' predecessor - Lasky Famous Players Co., in 1914. Lasky Famous Players Co. was formed by a number of the first, true "independent" producers and distributors - individuals like Adolph Zukor and Jesse L. Lasky. Their companies were the producers and distributors who existed outside the monopolistic trust formed in 1909, the Motion Picture Patents Company. The MPPC included the manufacturers of camera and projection technology (Edison, Biograph, Vitagraph, et al.), who banded together in order to create a vertically integrated monopoly. It was the independents who colonized Hollywood, in part because they were free in Southern California from the anti-competitive practices of the MPPC, which was headquartered on the East Coast. The first independents also include names which resonate in the industry today, such as Louis B. Mayer (MGM), Samuel Goldfish (later "Goldwyn"), Lewis J. Selznick, William Fox and the Warner brothers. By 1914, the independents had established a film production center in Hollywood that would birth the major studios, while the MPPC languished under its own lack of vision. In 1917, the courts ordered the MPPC dissolved, following a Justice Department charge that it violated the Sherman Antitrust Act.

The Studio System. During World War I, the major independent production companies - Lasky Famous Players, Goldwyn Picts. Corp., Fox Film Corp. and Universal Picts. - did battle with the exhibition chains in yet another attempt by the major industry players to achieve a vertically integrated dominance. The battle by the producer-distributors to acquire exhibitors (e.g., Lasky's Famous Players Co.'s merger with the Paramount distribution exchange and related companies) elicited a counter-attack by the exhibitors to acquire production and distribution operations (e.g., the formation of First National Exhibitors Circuit, and the acquisition of Metro Pictures by Loews, Inc.). Among the consequences of these struggles were the entrances of banking institutions such as Kuhn, Loeb, the Du Ponts and Chase National Bank into the young industry. The vastly increased capital requirements that came with their new business operations dictated that the majors conduct public offerings on the New York Stock Exchange. As Wall Street invested massive sums in the industry, the studios became motivated to hire formally trained financial managers, and predictably, the new bureaucrats and accountants sought to systematize motion picture production. Yet another technological change on the horizon would require the studios to obtain even more capital - the advent of sound on film.

By the end of World War I, the major studios had become vertically integrated, and had fashioned a structure - labeled the "Studio System" - that would subsist for the next forty years. The independents, many of whom were first and second generation immigrants with little or no formal education, who began as arcade showman and nickelodeon operators, ended up the first studio chiefs.

The industry titans (the "big 3") in the early 20's were Lasky's Famous Players Co. (later "Paramount"), Loews, Inc., and First National (later absorbed by Warner Bros.). Additionally, United Artists was formed by D.W. Griffith, Mary Pickford and Douglas Fairbanks in 1919 to produce and distribute. And Metro-Goldwyn-Mayer emerged as a powerful studio in 1924, under the auspices of Loew's, Inc. The "little 5" included Fox Film Corp., PDC, FBO, Laemmle's Universal Pictures, and Warner Bros. Picts. In addition, there were approximately thirty thinly capitalized minor studios, including Columbia, Republic and Monogram.

The Advent of Sound. By the 1930's, sound-on-film had become state of the art, and motion pictures had become a large scale industry dominated by vertically integrated majors. In the early 30's, 95% of all American film production was concentrated in the hands of eight studios (five majors and 3 minors): MGM, Paramount, Warner Bros., Fox Film Corp., and RKO (majors); and Universal, Columbia, and United Artists (minors). This decade represented a time of near total domination of the American film industry by corporate giants (e.g., the Morgan and Rockerfeller groups), which together controlled nearly all the major sound patents.

In addition to the majors and minors of the 30's were the B-Studios, which came into existence to fill the need for the bottom half of the "double bill," an exhibitor custom of the times. The mini studios that produced these hour-long, genre films included Republic, Monogram, and Grand National. In the late 40's, hen the majors lost control over their theater chains (see below), the double bill and the mini studios that produced B-films became extinct, although the B-film migrated to television where it evolved into the television "series."

Early Motion Picture Finance. In the infancy of the motion picture industry, the pictures produced by pioneers such as Cecil B. DeMille, Samuel Goldwyn and D.W. Griffith were financed in whole or in part by a variety of traditional business finance methods: commercial loans and credit arrangements, "project finance" or "single-picture" bank loans, securities offerings, etc. All of these finance vehicles survived into the modern era, with many important adaptations. In the 1930's and 1940's, the major producer-distributors (Paramount, Universal, Columbia Pictures, United Artists, RKO et al.) also controlled the exhibition of their product, which meant that even films with poor income potential could generate a minimum of income from the boxoffice and therefore repay some or all of their production loan creditors, investors and other obligees. Under the Studio System, the majors had a powerful means of ensuring that even their worst product could generate at least some revenue.

Hollywood Conscripted. After WWII began, Hollywood was enlisted by the U.S. Government in the war effort, a calling which proved very profitable. Weekly admissions in the U.S. during WWII reached 85 MM people, nearly three times (2.8) the level in 2003. Unfortunately, the industry overseas did not fare as well: WWII virtually destroyed cinema in Europe, with the exception of Italy. Production facilities were decimated during the war, as were theater chains. It was not until the late 40's that film production overseas began to reach its prewar levels. By 1946 Hollywood had resumed its economic domination of the worldwide cinema, as one-hundred million people per week paid for a theater ticket.

The 1950's and 1960's: Genesis of Modern Independent Film Finance. Even as Hollywood savored its renewed global supremacy in the late 40's, three misfortunes were collecting on the horizon. First was the advent of television, which produced a substantial decline in theatrical revenues in its early years. The second misfortune arrived in the form of the political investigations of Hollywood that produced the "blacklisting" of numerous highly talented artists, and preceded the Sen. Joseph McCarthy communist witch-hunts. The third was the most disastrous of all, financially speaking, and consisted of a series of federal, civil judgments which prohibited certain anti-competitive trade practices, and ordered the studio defendants to divest themselves of all ownership in theatrical exhibition enterprises - known as the Paramount Consent Decrees.

This tragic economic downturn for the industry naturally brought about changes in finance as the lenders providing production loans began to develop ways to minimize their risk. Two realities pertinent to film production finance - both of which are as true today as they were then - became apparent to the banks and other entertainment lenders. First, simply increasing collateral requirements was not always practical or feasible for the borrowing producer. A lost loan opportunity represents a loss of income to the bank - lost loan fee, lost interest, and perhaps a lost depositor client. Second, the principal threat to loan default was the uncompleted picture: an uncompleted film had no value whatsoever. In London, two producers became aware of these realities and founded a company that would serve as a specialized guarantor. Its express purpose was to ensure the completion of films according to certain pre-agreed upon specifications (i.e., with the requisite "elements", on-time, on budget, as per the shooting script, etc.). The company - Film Finances, Inc. - was (and remains to this day) reinsured by Lloyds of London. Since that time many other completion guarantors (or "completion bond companies") have come into existence for essentially the same purpose, although their clients have changed with the changing business climate.

The 1970's. By the early 70's, the development of the film industry in Europe began to alter the U.S. film industry. The success of "art films" abroad (the French and Italian New Waves, e.g.) made clear to American producers that "independent" productions of that type could be profitable. This realization had two important consequences in the U.S. First, it generated the new breed of independent filmmaker - producer, director or multi-hyphenate. Individuals such as Roger Corman, George Lucas and Stanley Kubrick found they could control their financing and resultingly, control their creative vision. Second, the major studios - who had turned to television production to supplant their dramatic theatrical revenue slump - became willing distributors of the new independent productions and the new successful foreign films. The surge in independent production precipitated an important development in independent film production finance, namely, that of the "interim production loan." Reportedly, Chemical Bank made the first production loan to an independent production company in 1976. Characterized chiefly by: (1) the use of distribution or presale contracts which contain guaranties of minimum payments upon delivery, as "collateral" for a loan, (2) the "discounting" of the distribution/presale contracts by a bank, which loans the production funds to the producer, and (3) the assurances of a completion bond company that the picture will be completed on time, on budget and as per specifications, this type of financing has also been described variously as "negative pickup" or "presale financing", "single-picture financing," "gap financing," "discountable contract finance," or simply "production financing."

The 70's was a decade that restored Hollywood's faith in formulas. As a consequence, it was a decade of big budget, mass-appeal blockbusters, and upward spiraling production costs. With the increased costs came increased marketing and distribution costs, and increased risks. The increased capitalization requirements of the majors in conjunction with increased profits surely was one factor responsible for the trend among the major studios to become absorbed by mammoth corporate conglomerates. It was in the 70's that Paramount was acquired by Gulf and Western, and United Artists by TransAmerica. Another factor, perhaps more responsible for the trend, was that moviemaking had become an enterprise that in fact was exceptionally profitable in terms of average rate of return. This drift towards conglomeration recommenced in the late 90's, and persists into the present.

The Booming 1980's. When 1980 arrived, it was the most lucrative year in the film industry's history. The 1980's saw yet another maturation of the "independent" production sector, this time in the formation of several medium sized production-distribution outfits. Many companies involved in finance, production and distribution, such as New Line Cinema and Miramax, entered the playing field dominated by the majors. A number of developments in the 1980's affected the use of discountable contract finance, for both the independent and the major studio. In the 80's, the major studios began to sue discountable contract finance in conjunction with production outfits such as Carolco, Cannon Films, New Line Cinema, ITC and Arnold Kopelson Prods.

        
         In the late 80's, it seemed that a market adjustment was imminent, if not desirable. It was a period characterized by over-zealous purchasing of rights by foreign territories. Consequently, undeserving genre films with bloated budgets were commonplace, a market condition that would correct itself in 1991. While the 80's saw the birth of many independent companies (e.g., Carolco, DeLaurentiis, New World, MCEG, Weintraub, and Imagine), many of which went out of business in the following decade, two "mini-major" companies that developed in the '80's merit special attention.

        Miramax. Founded by Harvey and Bob Weinstein in 1981, the marketing and promotional wizardry of its principals became legendary with successes such as My Left Foot, The Crying Game, and sex, lies and videotape. The founders successfully branded their films as high-end, lower-budget specialty films, a species of product for which demand would swell in the early '90's. In May 1993, the founders sold the company, including its library of 200+ films, to the Walt Disney Company for approximately $60 MM. The overall deal called for Miramax to continue to operate as an autonomous division of Buena Vista Pictures Distribution, Inc., and control its own acquisition, production, marketing, and theatrical distribution. Under the Disney deal with the Weinsteins, who became Disney employees on 5-year contracts, Miramax would handle its own foreign sales to independent distributors, with the proviso that Disney have a right of first refusal to acquire international rights. The arrangement with Disney allowed Miramax to obtain production capital from Buena Vista's deep pockets, in addition to their own resources in the overseas and ancillary markets.

        New Line Cinema. New Line was founded in 1967 by low-budget producer Robert Shaye as a small independent outfit. In 1986 it went public with a market capitalization of $45 MM. Two enormous successes in the 1980's took the company to new heights. Nightmare on Elm Street was such a box office success, it empowered the company to substantially expand both its production and theatrical distribution operations. Similarly, the staggering revenues from the Teenage Mutant Ninja Turtles franchise opened the door to ramping up its homevideo distribution enterprise. In 1990, NLC invested in Robert Halmi Intl., which gave it access to a library of 1000 titles and one year later, it acquired videogram distribution rights to the 600 title Nelson library. The same year, it did a deal with Castle Rock Entertainment to acquire domestic video and all foreign rights to 13 studio budget pictures. In 1992, NLC appointed an in-house creative executive, Michael DeLuca, its COO.

        In 1993, NLC set up a $150 MM line of credit with Chemical Bank, as agent. A few months later, NLC was sold to Turner Broadcasting System for $500 MM (separately but simultaneously, TBS acquired Castle Rock for and additional $100 MM). NLC's founder, Shaye, and its president, Michael Lynne, stayed aboard on 5-year employment contracts. TBS, in turn, was acquired by Time Warner in 1996. In 1997, NLC acquired a $400 MM line of credit, designed to allow NLC to operate independently within the Time Warner framework until 2000. Sucked in by the German mania for A-list upside potential, in 1998, NLC pacted with German film fund Kinowelt Medien, a deal worth $60 MM to the mini-major.

        By 1999, New Line had achieved a domestic market share among the major studios of 7.8%, bigger than either MGM or Universal, and had completed a 30-year metamorphosis from low-budget startup to American major studio-distributor. The same year, New Line International, the overseas distribution arm of New Line, announced distribution agreements in 12 countries, most of which had significant back-end participations for the studio. The company's extraordinary success with The Lord of the Rings trilogy proves it is still a vital competitor with its older, bigger siblings.

        Limited Partnerships, LLCs and Private Placements. In the early 1980's another peculiar finance phenomenon manifested in the film industry. The public limited partnership emerged as a film finance vehicle. Set up by Wall Street investors to fund portfolios of film productions, these public offerings were marketed by major firms such as E.F. Hutton and Merrill Lynch, and were devoured by small investors prior to 1986 due, in large part, to the availability of the investment tax credit and the absence of rules rigidly restricting the offset of passive losses. The Tax Reform Act of 1986 changed both of these conditions, making the credit unavailable and providing technical rules about offsetting income with passive losses. These publicly held partnerships are sometimes described as "Silver Screen" of "Delphi" financings, after two of the more prominent offerings. By the mid 80's, this public funding trend had given rise to even larger going-concern enterprises, such as New World, Orion and Carolco.

        Distinct from a publicly owned LPS are non-public limited partnerships or limited liability companies ("LLC's"); i.e., limited partnerships or limited liability companies funded via a "private placement," both of which remain viable and vital means of financing single films and film production companies. Although private limited partnership/LLC interests are subject to the same limitations as the publicly held LP interests, numerous films today are financed via single-picture private placements. Investor benefits in limited partnership or limited liability company investments include: limited liability, single versus double taxation (i.e., partnership rather than corporate treatment), deductibility of losses (subject to at risk/passive loss rules), and special allocations of income and loss. Additionally, both LPS"s and LLC's offer optimal flexibility with respect to management and control issues as between the active managers and passive investors. Finally, the record keeping requirements are less burdensome than those for corporations. For all these reasons, private placement financings have survived into the modern era of film finance and continue to prove their utility and investment benefits.

The 1990's. The 90's were a decade of intense evolution for independent film finance. Phenomena that distinguished the period included: the wavelike development of the foreign television presale market (mid-90's through 2001); the arrival of the "specialty" film division; the domination of the overseas markets by the major studios; the German Neuer Markt explosion and collapse (mid-90's through 2002); the gap loan rush and gap insurance financing schemes; and the emergence of the "financing producer." All of these had unique characteristics that are informative about the nature of film finance, and which are instructive about its possible futures; they are discussed separately below.

        The CLBN-MGM Fiasco. The foremost lender to independent producers in the 1980's was a Dutch division of French bank Credit Lyonnais, known as Credit Lyonnais Bank Nederlands ("CLBN"). CLBN ceased making production loans entirely in 1991 in the wake of a massive studio finance scandal that stretched from Los Angeles to Paris and Rome. It involved an Italian financier, Giancarlo Paretti, who had taken control of MGM/UA via a takeover financed by Credit Lyonnais, and merged MGM/UA with Pathe Comms. to form MGM-Pathe Communications Company. Paretti's takeover vehicle, Melia Int'l, defaulted on its repayment obligations to CLB, and the bank responded by revoking $358 MM in loan obligations to Melia. As a result, Credit Lyonnais took control of MGM-Pathe. Among the collateral damage done by this colossal corporate finance debacle was the shutting down of independent production finance operations by the Dutch division of the bank, CLBN. As the primary maker of single-picture production loans, the impact on the foreign presale market was global and substantial. The industry slump it created, however, did not persist for long, as other market forces came into effect and increased demand for new product overseas.

        A New Boom. As the MGM-Pathe scandal brewed in 1990 and 1991, theatrical revenues plummeted in Europe, Asia and America. However, demand overseas for foreign television rights was surging among big distributors such as Sogecable and Telefonica in Spain, the Kirch Group in Germany, and Canal Plus in France, which also serviced the Benelux countries, Sweden and Poland. Additionally, home video revenues were galloping ahead of theatrical revenues, although demand for A-product films was on the rise and the keen interest globally in direct-to-video or "B-movies" that was a major cause of the 80's video boom, virtually evaporated. These events of course did not go unnoticed by the major studios in America, and their response was to become aggressive competitors with the indies for the arthouse/specialty films that were selling overseas. Perhaps not coincidentally, this phenomenon was accompanied by rising production and release costs.

        Despite the increasing costs of production and distribution, the mid-90s were another extraordinary period for independent film finance, as the ancillary media of homevideo and foreign television ballooned. However, another dip in the global presale marketplace was imminent, as another unlucky trio of factors manifested: (1) the collapse of the Asian currencies; (2) an overexuberant banking community which was willing to take on new levels of risk without adequate protection; and (3) the increasing dominance of the major studios in the global markets and the resulting deficit of theatrical-distribution capital for independent films.

        The Asian Crisis. In 1997, the Asian Pacific regional economies were gripped by an economic crisis. Advertising revenues, especially TV advertising, plunged dramatically. Hardest hit were South Korea and Indonesia. The currency devaluations in those countries jeopardized the presale financings of many independent productions, destabilized dozens of small sales agencies awaiting guarantees or territorial revenues, and weakened many distribution companies that specialized in providing the action genre films which were devoured by the Asian territories. Naturally, the major studios felt the sting too, and it was estimated that the crisis took off 20% of their bottom-line profits for films released in that region.

        Overexuberant Banking: The Gap Loan Rush and Gap-Insurance Financing Schemes. In the early 90's, in response to the demands of the overseas markets, especially overseas TV markets, riskier forms of this practice likely resulted from a number of factors. First, there was a huge demand overseas for quality, cast-driven film projects with A-list talent, which included the species of films that played well at the urban "arthouse" or "specialty" theaters. Global TV and video markets were swelling; cheap genre fare such as the typical direct-to-video film was passé - only studio quality productions with recognizable name talent would satisfy the buyers. Yet, there was a profound shortfall of entertainment lenders to meet the demand for discountable contract loans, since CLBN had shut its doors. In addition, by all appearances, the major studios were cutting back on in-house productions, and becoming bullish in acquiring independent productions for domestic theatrical release, further increasing the demand for independent films and loans with which to produce them. All of these events caused a number of American banks to dip their feet into the water of production lending, tempted by the higher loan fees (ranging from 5 - 10%) and the prospect of acquiring new depositor clients.

        In standard gap financing arrangements, the total of the minimum guarantees in the presale contracts is less than the film's budget; thus from the lender's viewpoint, there is a "gap" between the amount of money it is guaranteed to be repaid, and the amount it must loan. The practice did ot originate in the 90's, and in fact it had been used by overseas banks for some time. During periods of great vitality in the presale market - such as the period from the late 80's into 1992 or 1993, gap financing was frequently unnecessary since sufficient minimum guarantees to cover the budget were available. However, in the mid-90's minimum guarantees became insufficient to fully finance most pictures.

        The surge in competition among the lenders that was brought on by the death of CLBN, the heightened demand for quality product overseas, and reduction of studio in-house films, led to two practices that increased the risks of the loan transaction. First, the protective custom of limiting the gap portion of the loan to 20 or 30% of the budget, began to erode. Banks frequently gapped 50% or more in order to close the transaction. Second, in connection with the widening gaps, and in order to further ensure repayment, lenders inserted a new element into the financing system: a third party insurer of repayment of the gap.

        In exchange for guaranteeing to the bank that the unsecured gap would be covered by revenues from unsold territories, the third party insurer took a substantial fee on the guaranteed amount, frequently 20% and sometimes as high as 45%. This fee was in turn loaned to the producer by the bank, and was paid to the insurer on closing. Gap insurance financing was not exclusively used by independents; the same principles were employed in insurance deals between the major studios. This new subspecies of discountable contract financing - proved more or less disastrous for independent film finance, but not the studios, who could theatrically distribute even their losers, and thus guarantee some minimal level of performance overseas.

        In the late 90's, as the effects of the Asian Economic Crisis rippled through the industry, the many films financed during this "gap loan rush" a few years earlier revealed their true colors. A great many of these projects had not met the sales projections overseas, and many of them never obtained the precious domestic theatrical release which might have prevented the red ink from spilling into their financials. This double whammy spelled doom for the many insurance companies which rushed into the wake of the gap loan boom to get a piece of the action.

        As the gap loan rush films fizzled at home and abroad, many banks and insurers who engaged in gap insurance financing retrenched or exited. Among the most notable tragedies were C.E. Heath's (a U.K. insurance broker) deal with L. A. based Phoenix Pictures, and the Axa Reinsurance (France)/AIG deal with Destination Films. The latter deal is remarkable because the principles of the company arranged $100 MM in financing backed entirely by their reinsurance arrangements. The former is remarkable because as one of the first deals to be consummated, it augured trouble for the many that followed in its footsteps. Many commentators have pointed out that gap insurance financing violates a chief axiom of the insurance industry: all parties must shoulder some portion of the risk. Gap insurance loans, unlike home insurance, auto insurance, etc., had no "deductible" for either the producer or the lender.

        Increasing Major Studio Dominance and the "Rise of the International Market." As discussed above, the studios observed the heightened demand overseas for American films which occurred in the early part of the decade. Initially, they chose to compete with the independents by producing and distributing the same species of films that were selling tickets overseas: the arthouse or specialty film. As the middle of the decade approached, the studios changed their strategy. It was in the mid-1990's that overseas revenues for the major studio films began to exceed their domestic revenues.

        Late in the 90's, it appeared to the majors that huge "event" films laden with special effects and star power could produce staggering revenues overseas, provided they reached a threshold level of box office performance in the States. Contrapositively, non-event films (i.e., films with more generic elements or which are more character driven) - even those with substantial star power - did not enjoy the same level of success. Some attributed this to a resurgence in local-foreign productions that claimed a larger share of the box office. These factors seemed to drive the studios into what is today called "bipolar budgeting" or a "tentpole" production and marketing strategy (i.e., the studios have moved into a posture where they spend enormous sums of money producing and marketing their franchise-event-effects pictures, and relatively small sums on all other projects, effectively eliminating the arthouse or specialty film and other middle-of-the-road, medium budget films).

        Among the consequences of the majors' enthusiastic charge into the overseas arena was that the foreign television market which was in large part responsible for the increased overseas demand that began in the early 90's, became saturated with product. Another effect was the drying up of precious prints and advertising capital for domestic distribution of independent product. It became virtually impossible for a small or even medium sized independent production company without a studio deal to obtain domestic theatrical distribution. In a recessed, oversaturated world market, with no theatrical distribution, only the large independents could thrive.

        Separate from the Asian crisis, the gap loan rush and the conquest of the foreign presale market by the majors, was a fourth major industry development in the 1990's. At the end of the day, the story seemed quite familiar.

        Birth of the Neuer Markt. As gap loan financing in the U.S. was reaching its zenith, a peculiar financing phenomenon materialized in Germany. Like most overseas territories, the German film distribution industry had long been dominated by the American major studios; thus German distribution companies could not reap the rewards engendered in the increasingly larger American blockbusters. As American movies increased their domination in the 1990's of the German market in the 90's and scaled up their alliances with German TV buyers such as Kirch and Bertelsman, German film distributors were increasingly sidelined. Of course, the frustration of the German distributors was not unforseeable, nor was it without historical precedent. In the past, similar dissatisfaction by foreign distributors produced foreign acquisitions and other ventures associated with American studios or large production outfits: Matsushita's (Japan) acquisition of MCA Universal in 1990; JVC's (Japan) backing of Largo Entertainment in 1989; and the formation of Mutual Film Company with backing from several foreign distributors (Germany, U.K., France and Japan). Unlike the other scenarios, the German reaction to the domination of the majors within their country was accompanied by the development of a public market in tax sheltering vehicles - coined the "Neuer Markt." The Neuer Markt allowed the German distributors and other German players in the film and television industry to raise huge sums of cash from wealthy private German investors by offering them large tax writeoffs in connection with film production costs.

        The large German film funds formed by the German distributors included Helkon, CP Medien, Advance Medien AG, and Kinowelt, to name just a few. They used their capital to invest hundreds of millions of dollars with independent production companies like Franchise Pictures, New Line Cinema, Newmarket Group, Senator Entertainment, and many others, as well as the major studios. The types of deals they made with American producers and distributors included output deals, presale arrangements and co-production financing arrangements. On the independent producer's side, the German film fund deals were far more desirable than the production output deals offered by the major studios, and many of Hollywood's A-list producers inked an arrangement with a German film fund (e.g., Joe Roth, Mark Canton, and Francis Ford Coppola). By the end of 2000, at least two dozen Hollywood producers had entered equity and/or output deals with German film funds and other foreign partners, which collectively promised capital and fees in the hundreds of millions of dollars.

        It seemed for a while that the German Neuer Markt was only the first overseas market to mushroom with abundant production capital. Briefly, Spain examined the prospects for launching their own such public market. Also, French conglomerates (Pathe, UGC and Gaumont) and Italian players (e.g., Eagle and Medusa) were envious of the German phenomenon. However, before any of these countries could replicate their own versions of the German exchange, many commentators began predicting a catastrophe.

       As the German film funds increased in number and their stock prices on the Neuer Markt soared beyond all expectations, some analysts predicted the bubble would burst. By October of 2001, the Neuer Markt boiled over, and then collapsed. The plummeting stock prices signaled the end of the German financing rush. Analysts said that the Germans were naive in their pursuit of Hollywood's riches, that their expansion was too fast, and their gambles too high. Not all of the German film fund relationships were dissolved. Those left standing were distribution (including presale) arrangements. Chiefly, the casualties consisted in the production funding arrangements, with exception of two of the most high profile - Revolution and Senator. Many of the other deals for production financing ended in legal disputes, such as the one between Intertainment and Franchise Pictures.

        All totaled, the Neuer Markt delivered $100 MM in cash to Hollywood producers and distributors, and inked more than $1.0 BB long-term production, distribution and rights commitments. Predictions are that Germany's presale buyers will gravitate toward a more traditional posture for overseas buyers, where co-production financings are single-picture, tax-driven and/or government subsidized, and require some local cultural content. Irregardless, it was a certainty that the free ride was over, and that the major studios and large independents would have to find new sources of production capital to fund their films or cut their expenditures.

        The Financing Producer. As indicated above, rising demand for quality American films was a trend throughout the 1990's: first it was demand for the arthouse/specialty film, and later the "tentpole," or big-budget franchise picture. A second more or less constant trend during that decade was a shortage of production and distribution capital from sources. The industry responded to the shortage by engaging in the riskier gap financing and gap insurance lending, and by enticing German investment. A third response, was the welcoming of the "financing producer," a producer who brought partial production or distribution equity financing to the studio conference table. Much of this equity in fact was money that flowed through the German film funds, private investment raised on the Neuer Markt. The producers and companies who brought equity financing to the American studio-distributors included many established production companies and foreign sales organizations, as well as A-list producers and former studio executives who had the clout to secure an output, presale or co-production deal with a German fund or distributor. But these "financing producers" had another source of equity investment, wealthy American investors who had recently made fortunes in the stock market, the dot-com boom, real estate, or elsewhere. Although the German investment capital is gone, American equity players are firmly entrenched in film finance today, as discussed more fully below.

The Millennium. The 1990's had witnessed a boom in the foreign markets, followed by a string of misfortunes. The maturing of the German film fund phenomenon and the flood of investment capital it brought was timely. By 2000, as the German film funds were ramping up their cash infusions into Hollywood, the discountable contract finance arena (where the independents traditionally thrived) was in a sorry state. It had been decimated by three calamities: the disastrous gap loan rush and gap insurance financing debacle, the Asian economic crisis, and the invasion of the worldwide titans, the American majors. Fortunately for the independents, especially the smaller ones in the low-budget arena, there was some positive news in an ancillary market, resulting from a change in consumer electronics technology. The plummeting cost of DVD players translated into huge sales of DVDs, quadrupling revenues between 1999 and 2001.

Unfortunately, more bad news was yet to come for the independents. The year 2000 marked the beginning of a recession in the U.S., and overseas, things did not look good either. The decline in theatrical revenues abroad continued, as production and marketing costs in America pushed higher. Also, the foreign television markets remained oversaturated, and the pool of capital available for marketing independent films in America continued to dry up. Finally, the falling stock prices on the Neuer Markt had only begun to drop; the destruction that would follow still lay down the road.

        2001 and the Micro-Studios and Quasi-Indies. By 2001, the overseas box office was down two years in a row. The unfavorable conditions that existed at the beginning of the new century and the writing-on-the-wall regarding the Neuer Markt foreshadowed an era of economizing and consolidation. In 2001 a new lot of prominent independent producer-distributors surfaced as many longtime foreign sales players folded or were absorbed. The thinning-of-the-herd phenomena was not restricted to the independent producer sector, as producers with studio based deals similarly experienced a reduction in numbers. Some of the prevailing large independent producers-distributors are discussed below.

        Intermedia. Intermedia was a sales company formed by producers Nigel Sinclair and Guy East in 1996, and was reportedly financed with the principals' second mortgages. Like some of the other big independents in existence today, it rode on the wings of the Neuer Markt to new heights. In May 2000 its IPO gave the company a market capitalization of $1.08 BB, and was 13.5 times oversubscribed. Its staggering capitalization empowered the company to become the industry's preeminent independent producer-distributor-financier (The Quiet American, Resident Evil, Adaptation, K-19: The Widowmaker, T3: Rise of the Machines, et al.). After its IPO, it entered into an array of deals with A-list producers and talent (Sydney Pollack, Barry Levinson, Mark Johnson, Nicholas Cage, et al.). And in early 2002 Intermedia purchased Graham King's Initial Entertainment Group outright. However, the collapse of stock prices on the Neuer Markt and the failure of K-19 stalled the company's expansion. In 2003 the company merged its foreign sales operations with those of Summit Entertainment (see below) to form I.S. Film Distribution, and scaled back its operations substantially. Although the company remains a producer, it has delegated much of its development slate to its former production head, who recently set up a shop on the Warner Brothers lot (Basil Iwanyk, Thunder Road), and to its foreign distribution partner, Summit Entertainment. At the time of this writing, Intermedia has focused its affairs on the Oliver Stone Alexander the Great epic, initially budgeted at $200 MM, and has announced it will reduce its production slate to five or six-films per year.

        IEG. Graham King's Initial Entertainment Group was opened as a foreign sales agency in 1994. After some very shrewd and lucrative foreign sales licensing arrangements, IEG lined up a substantial credit facility with Chase Manhattan Bank, and shortly thereafter sold 49% of the company to a Teutonic company, listed on the Neuer Markt, Splendid Medien. After the stock price plummeted in December 2001, King repurchased Splendid's share, and within a month, resold the entire company to another Neuer Markt Co., Internationalmedia AG (later, "Intermedia"). King continued to operate the company autonomously, with Intermedia funding its overhead and development costs. Remarkably, the company exploited the German investment phenomenon to transform itself from a sales agent/broker into a production and finance company which produces major studio tentpole films (Gangs of New York, the upcoming Aviator).

        Summit Entertainment. Patrick Wachsberger's Summit Entertainment began as a foreign sales agent, and developed lucrative relationships with Artisan Entertainment (The Blair Witch Project), Mandalay Pictures, Newmarket Capital Group (Cruel Intentions, Memento) and Constantin Films. Along the way, it expanded operations into development and production.

        In September 2002, Summit developed another powerful relationship in Columbia based Escape Artists, a production, financing and distribution venture headed by producers Steve Tisch, Jason Blumenthal and Todd Black. Escape Artists had raised not only development and preproduction funding, but had obtained a $250 MM financing arrangement with Union Bank and Newmarket Group. A few months later, Summit formed I.S. Film Distribution, a joint venture with Intermedia, reportedly making it the largest independent international sales entity. The deal did not affect the companies' respective development, financing and production operations; instead it covered sales and marketing for both companies' films, excluding IEG, and for other producers who have resident output deals, including Alcon, Artisan, Constantin, Crusader, Escape Artists, Newmarket, Mandalay and Walden Media.

        ContentFilm Plc. and its Progenitors: Winchester/Cobalt Media Group/MM Media Capital Partners. Originally launched in 1999 as MM Media Capital Partners by London-based Peter Rogers and Rodney Payne and L.A. based Hal Sadoff and Myles Nestel, the company was engaged in financing independent productions and making international sales deals. In May of 2001 it was renamed Cobalt Media Group.

        In early 2002, Cobalt Media Group ("CMG") entered a production financing/international sales joint venture with the owner of the vast RKO film library, RKO Intl. In June 2003, CMG was purchased by publicly traded production and foreign sales company Winchester Entertainment (Disney's Open Range and Dreamworks House of Sand and Fog). Early this year, the company changed shape yet again, this time in a reverse takeover headed by longtime producers Ed Pressman and John Schmidt, of ContentFilm. The new company, ContentFilm Plc., is run by co-CEO's Pressman and Schmidt, has a market capitalization of $47 MM, and aggressive plans to expand into a much larger studio.

        Beacon. Beacon was formed in the early 1990's between writer-turned producer Armyan Bernstein and Marc Abraham. The company reportedly was "self-financed," although its strategy was to use foreign presale financing to reduce the downside risk on its studio budget pictures. Earthlink founders Kevin O'Donnell and Reed Slatkin were major stakeholders, the latter of whom went bankrupt. In 1996 Beacon landed a co-production and co-distribution financing, first-look deal with Universal, but its relationship was ill fated. Vivendi-Universal in 2000 was a company with an appetite for overseas rights to films produced in-house and by its affiliates. Beacon's Universal deal was not renewed when it expired in 2001, despite such successes as Air Force One, Spy Game, The Commitments, End of Days and The Hurricane, and a schism developed between its two principals, but better things lay down the road for the company. Beacon was unique as a large independent that - although tempted - never succumbed to the temptations of the Teutons during the Neuer Markt mania in the late 90's.

        In December 2002, Bernstein locked a 5 year, wide-ranging, overall production and distribution deal with the Walt Disney Studios. Like the deal at Universal, the arrangement included co-financing roles for both parties. But unlike the Universal deal, the studio owned theatrical distribution rights overseas, with some exceptions and the agreement vested Beacon with a number of "puts." The new Beacon, which included Charlie Lyons as CEO, could then claim membership among a super-elite class of studio affiliates as Jerry Bruckheimer Films, Bill Mechanic's Pandemonium and Spyglass Entertainment. Less than one-year later, the company acquired a $250 MM revolving credit facility with a lender consortium led by JP Morgan. The deal is expected to empower the company to expand into music and television, goals which Bernstein has long held.

        Bel-Air Entertainment. Bel-Air Entertainment was launched in March 1998 as a five year partnership between Warner Brothers and French pay television giant Canal Plus. It was one of a number of deals established by Canal Plus, which was hungry for A-list product. Under the arrangement, Canal Plus served as a co-production financier and international sales agent. Canal Plus' parent company, Vivendi, merged with Universal Pictures in 2