THE INDEPENDENT FILMMAKER’S LAW & BUSINESS GUIDE TO FINANCING, SHOOTING, AND DISTRIBUTING INDEPENDENT AND DIGITAL FILMS
(Chicago Review Press)

Excerpt from Chapter 4

Filmmaking 101
Sudios and Independent Financing Options
Jon M. Garon

This column is one of a series of book excerpts from INDEPENDENT FILMMAKING, THE LAW & BUSINESS GUIDE™ FOR FINANCING, SHOOTING & DISTRIBUTING INDEPENDENT & DIGITAL FILMS designed to introduce filmmakers and others interested in creating digital content for their websites, classrooms or other uses on the legal issues involved in the filmmaking process.

A.        Studios.

The traditional Hollywood studio manufactured motion pictures. They purchased the raw materials – stories and talent – and produced finished films that they exhibited in theaters throughout the world. Over time, the production activities separated from the distribution activities, so that the studio would distribute and promote films produced by other film companies, reducing the studio’s risk that the film would not be made.
Today, the major motion picture studios are primarily distributors rather than film production companies.  Instead of directly purchasing stories or scripts, the studios work through existing relationships with established production companies.  Those production companies serve to package the script, develop the budget and manage the production. 

The budget will include a negotiated fee for the producer’s own expenses and income.  The agreement between the producer and studio will also determine the participation in the film’s revenue that will be paid to the producer.  The studio will finance the project on an incremental basis, providing the necessary funding for each step of the process.  In exchange, the studio has primary control over the project and the ability to terminate it throughout its development. 

The incremental approach, known as a production and distribution deal, allows the studio to maximize its control while minimizing its cost.  The producer will typically receive a small fee for early pre-production activities.  Although the costs of script and budget preparation often exceed this payment, the producer covers this risk rather than the studio.  If the studio is interested in further development of the project, it will
release funds to the producer to pay for selected key aspects of the pre-production. Locations will be scouted, the script rewritten or polished, and key personnel identified.  Throughout this process, the producer will receive little or no additional pay.

Eventually, however, the studio may commit to the project.  For some directors and actors, the studio will be obligated to pay them whether or not the production ever is filmed.  Prior to making this commitment, the studio will “green light” the film and commit to principle actors, director and designers.  During this phase of pre-production, the studio will typically distribute a small portion of the producer’s fee.  The bulk of the producer’s fee will be paid during the principal photography, with small payments withheld until the delivery of the first rough cut of the picture and the delivery of the final picture.

For the independent filmmaker, the choice to make a picture under a studio-financed production deal represents a blessing and a curse.  The potential success that a well-made studio film has greatly exceeds that of any independent film.  The studio’s marketing budgets and promotional savvy can make a household name out of anyone, opening the door for tremendous professional control on subsequent projects.
The curse is that the independent filmmaker gives up control immediately.  Rarely do studio screenplays resemble the writer’s first drafts, and novice directors will be second-guessed at every turn – if the filmmaker is allowed to remain attached to the picture at all. Still, that is where the money is.  For most artists, it is commercial success that buys them the luxury of later artistic control.

In each of the various funding scenarios other than an outright sale to a motion picture studio, the film producer must still bear the burden of both controlling the costs and paying the bills as they accrue.  Although the filmmaker may have sold the right to distribute the film (or the copyright) in the completed film, these are future transactions that do not translate into production funds.  Instead, the filmmaker must apply to a lender to provide the cash to make the movie.

B.        The Independent Financing Choices.

Outside of the studios, the pre-sell and distribution deals vary significantly.  Some of the more common structures are described briefly.

1.        Cash Deals.

In all but the rarest situations or lowest of budgets, a filmmaker will not be able to earn a cash advance to fund the production based on a guaranteed distribution. There was a time when companies such as Cannon Films would create one-sheets (theatrical advertising posters) that the company would exhibit at the international film markets.  If it was successful selling enough territories based on the poster, then Cannon would then contact the named talent and begin the process of producing the film.  The remaining posters would be discarded, and those projects never started.

From the filmmaker's standpoint, cash for the production is the most critical requirement of any financing structure. No amount of future promises will cover rental fees or payroll. Modest cash advances may sometimes be available, but this is the exception to the rule.

2.        Negative Pick-Up.

Although the details can vary greatly, the term negative pick-up means that the film studio or distributor pays for the cost of the film finished to the point that a completed negative is ready for use once that negative is completed and made to the satisfaction of the purchase. Generally, the filmmaker using negative pick-up financing sells the film to a film studio in exchange for reimbursement of production costs and some form of
profit sharing from the proceeds of the film.  For example, if a filmmaker has a budget of $1,000,000 for a film project, the filmmaker would "sell" the film by promising to deliver a completed motion picture substantially the same as described in the screenplay in exchange for a payment of $1,000,000 by the film studio.  The film studio would have the obligation to finish the prints for the film, pay for the marketing and distribution of the film, and split profits, if any, with the filmmaker on an agreed-upon percentage basis.

The negative pick-up is the filmmaker's "field of dreams" – if the filmmaker shoots it, the money will come.  Making the movie requires that the script be followed, the agreed-upon casting not be changed, the length of the film be acceptable, and the film be eligible for the MPAA rating desired by the distributor, typically a PG-13 or R.  The amount paid for a negative pick-up transaction need not be the same as the production cost of the film, although the studio will often seek to cap the payment at this amount. If so, the filmmaker must be sure to include budget items for himself, the business manager and others who have invested sweat equity in the budget being used as the basis for negotiations with the studio.  To add these items late in the negotiations will result in little or no personal payments.

The negative pick-up does not eliminate the risks to the filmmaker because the funds are generally not made available until he has completed the film.  Nonetheless, the risk is much lower than almost any other form of filmmaking.  Unlike the studio deal, described below, the purchaser has few rights to watch the filmmaking process or interfere in the making of the film. Of course, the filmmaker has two primary risks. First, he risks
that the film does not get finished, meaning that none of the expenses are paid for by the distributor and leaving the filmmaker holding the bag for all costs.  Second, he risks that the film goes over budget, requiring the filmmaker use unreimbursed personal funds to complete the film.  Both situations doom would-be filmmakers regularly.

3.        Distribution Guarantee.

Since the negative pick-up does not immediately result in cash to the filmmaker, he must use the negative pick-up agreement as a form of collateral against which the film company can borrow money from a bank or other lender.  If the purchaser is a stable, well-established company, lenders are generally willing to finance this type of arrangement.  The distribution guarantee agreement provides that the film's distributor serve as guarantor of the loan.  Since the lender is entitled to repayment regardless of the film’s revenue, the distributor’s guarantee of the loan puts the lender in a position of much greater security than if the filmmaker is solely responsible for the loan.

Invariably, the lender will also require that the film company furnish a completion bond which serves as a form of insurance against the film not being completed as required by the purchasing distributor. Together, the loan interest and the premium cost of the completion bond will add at least twenty percent to the cost of completing the film.  Short term financing may increase this cost substantially higher.

4.        Foreign Distributors, Markets & Territories.

Foreign distribution has grown to become the single largest category of film distribution income, exceeding both domestic theatrical exhibition and video sales for revenue. Despite their importance, however, foreign distribution provides risky territory for independent films because the language, currency, and legal enforcement barriers often make it difficult for the filmmaker to collect royalties or enforce contract rights.  For foreign territories, the filmmaker is best-served by selling the rights to a territory outright, rather than seeking an advance and a royalty payment.  This structure, if possible, avoids the vagaries of currency exchange and the unfortunate but all-to-common practice of foreign distributors refusal to distribute royalty income. 

Given the problems of collecting small royalties from the foreign distributor in a small territory, the filmmaker often must face the reality that the cost of collection outweighs the amount of the payment being sought.  Even if payments are forthcoming, the difficulties of auditing the foreign receipts and a host of clever accounting practices make this income source highly volatile for independent film companies.  More modest
pre-payments will result in greater cash in hand for the filmmaker and should be the preferred strategy for all but the most reputable of distributors.

A new international era may be developing, however, as the Internet and improved international distribution is reawakening local production in countries throughout the world.  Independent U.S. filmmakers may find opportunities to collaborate or co-produce with production companies outside of the U.S.  Occasionally, these co-productions will provide financing to the U.S. company, but more often the foreign company has
subsidies for its local production and will provide services in exchange for the co-ownership of the project.  While such an arrangement entails a number of unique risks, it may also provide some attractive side benefits to the independent filmmaker in terms of expertise and travel.

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