In the last issue, we covered some of the most important ways to finance a feature film. To wrap up, let’s take a look at the remaining options, namely equity investments, financing from producers and soft money.
With equity investments, an investor shares in potential rewards, as well as the risks of failure. If a movie is a hit, the investor is entitled to receive his investment back and share in proceeds, as well. Of course, if the movie is a flop, the investor may lose his entire investment. The producer isn’t obligated to repay an investor his loss.
An equity investment can be structured in a number of ways. For example, an investor could be a stockholder in a corporation, a non-managing member of a Limited Liability Company (LLC) or a limited partner in a partnership.
The interests of individuals and companies that don’t manage the enterprise they invest in are known as securities. These investors may be described using a variety of terms including silent partners, limited partners, passive investors and stockholders. They’re putting money into a business that they’re not managing (i.e., not running). State and federal securities laws are designed to protect such investors by ensuring that the people managing the business (e.g., the managing members of an LLC, general partners of a partnership, or the officers and directors of a corporation) don’t defraud investors by giving them false or misleading information, or by failing to disclose information that a reasonably prudent investor would want to know.
In a limited partnership agreement, for example, investors (limited partners) put up the money needed to produce a film. Investors usually desire limited liability. That is, they don’t want to be financially responsible for any cost overruns or liability that might arise if, for instance, a stunt person is injured. They want their potential loss limited to their investment.
Because limited partnership interests are considered securities, they’re subject to state and federal securities laws. These laws are complex and have strict requirements. A single technical violation can subject general partners to liability. Therefore, it’s important that filmmakers retain an attorney with experience in securities work and familiarity with the entertainment industry. This is one area that filmmakers shouldn’t attempt on their own.
The federal agency charged with protecting investors is the U.S. Securities and Exchange Commission (SEC). Various state and federal laws require that most securities be registered with state governments and/or the SEC. Registration for a public offering is time-consuming and expensive, and not a realistic alternative for most low-budget filmmakers.
Filmmakers can avoid the expense of registration if they qualify for one or more statutory exemptions. These exemptions generally are restricted to private placements, which entail approaching people one already knows (i.e., the parties have a preexisting relationship).
Compare a private placement with a public offering where offers can be made to strangers, such as soliciting the public at large through advertising. Generally, a public offering can only be made after the SEC has reviewed and approved it.
There are a variety of exemptions to federal registration. For example, there’s an exemption for intrastate offerings limited to investors all of whom reside within one state. To qualify for the intrastate offering exemption, a company must be incorporated in the state where it’s offering the securities and it must carry out a significant amount of its business in that state. There’s no fixed limit on the size of the offering or the number of purchasers. Relying solely on this exemption can be risky, however, because if an offer is made to a single non-resident, the exemption could be lost.
State registration can be avoided by complying with the requirements for limited offering exemptions under state law. These laws are often referred to as “Blue Sky” laws. They were enacted after the stock market crash that occurred during the Great Depression. They’re designed to protect investors from being duped into buying securities that are worthless—backed by nothing more than the blue sky.
The above-mentioned federal and state exemptions may restrict offerors in several ways. Sales are typically limited to 35 non-accredited investors, the investors may need to have a preexisting relationship with the issuer (or hold investment sophistication adequate to understand the transaction), the purchasers can’t purchase for resale, and advertising or general solicitation generally isn’t permitted. There’s usually no numerical limit on the number of accredited investors.
All security offerings, even those exempt from registration under Regulation D, are subject to the antifraud provisions of the federal securities laws and any applicable state anti-fraud provisions. Consequently, the offeror will be responsible for any false or misleading statements, whether oral or written. Those who violate the law can be pursued both criminally and civilly. Moreover, an investor who has purchased a security on the basis of misleading information or the omission of relevant information can rescind the investment agreement and obtain a refund of his investment.
In 2012, President Obama signed the JOBS (Jumpstart Our Business Startups) Act, a collection of laws that relaxes regulations on capital raising for startup companies and has provisions that for the first time allow Internet crowdfunding of small businesses, such as producing indie films. Although existing companies like Kickstarter allow filmmakers to raise funding from donations, this new law allows filmmakers to raise up to $1 million in equity investments by soliciting the general public without complying with the onerous security regulations mentioned above.
Crowdfunding refers to the process of raising money to fund a project or business through numerous small donors, often using an online platform or funding portal to solicit their investment. Because investing in films is such a risky endeavor, being able to spread that risk among many small investors may substantially increase the amount of financing available for indie films.
Essentially, the new rules allow companies like Kickstarter and Indiegogo to offer those who contribute funds to receive more than swag. For the first time, promoters are also able to offer a share of the profits in a project.
FINANCING FROM PRODUCERS, NETWORKS OR STUDIOS
Producers often finance their films and series from the companies that intend to distribute them. If you can make a deal for your project with HBO, Netflix, Amazon or any number of other networks and channels, they may be willing to provide 100% of the production budget. The producer receives a fee (10% to 15% of the budget) for her services and may share in profits. Usually, the network or channel owns the completed project and can distribute it as it likes. This option usually isn’t available to newcomers without a track record of successful production.
Soft money refers to tax credits and incentives, co-productions and subsidies. Not all incentives are available to Americans. Some international subsidies are designed to assist local moviemakers and promote indigenous culture. In fact, many countries feel their cinema has been overwhelmed by a vast influx of American films, and the only way their moviemakers can compete is with some government assistance.
Location-based rebates are given to producers based on the amount they spend in an area. While the benefit may not be paid until after completion of the production, certain banks may loan the producer funds with the anticipated benefit as collateral. Some incentive programs seek to support filmmaking by encouraging investors.
To be eligible for some international incentives, the film may need to employ cast members from certain countries. It’s not unusual for an American producer to shoot abroad and bring along one or two American stars to enhance the value of the film. While the United States isn’t a party to any international co-production treaties, our filmmakers can contract with a local co-production partner that may have the savvy and relationships needed to secure the best deals and ensure compliance with local regulations. Moreover, an American movie that includes a local director or star may enhance the commercial appeal of the film in that country, increasing the license fee obtainable.
Approximately 39 states and Puerto Rico offer incentives. Incentives are often used in combination with other financing. They might contribute 25% or more of the production budget, but usually nowhere close to the entire budget.
Mark Litwak is a veteran entertainment attorney and producer’s rep based in Beverly Hills. He’s the author of six books, including “Dealmaking in the Film & Television Industry,” “Contracts for the Film & Television Industry” and “Risky Business: Financing & Distributing Independent Films.” He’s an adjunct professor at the USC Gould School of Law and creator of Entertainment LawResources. You can reach Mark at [email protected], or you can visit his website at marklitwak.com.