Unfortunately for filmmakers, the moment you start offering any participation in profits in return for an investment, you become subject to laws and regulations of the Securities and Exchange Commission. For this reason, before you start any official negotiations or offerings, you have to talk to an attorney specializing in these laws. The regulations and laws applicable will depend on the amount and type of investors as well as the investment amounts.
Before you even get to that point, however, you should have a basic understanding of how the investments work, and how investors will make their money back. Let’s take a look at straight cash investments (a.k.a. angel investors) and how the major deal points work.
When do investors get their money back?
Before you ask for money, you better know the answer to this question, because this will be the first thing investors want to know! The more you understand this process, the better. So read as much material as you can about how film revenues and profits work (even how taxes come into play!) You’ll have more success raising funds by studying the revenue stream, than you will from studying the investment structure.
There are many different places a production company can get revenues from:
- Domestic Box Office
- International Box Office
- Premium Cable
- even books and merchandise!
- …the list goes on!
All of these have different “waterfalls” from the moment a dollar leaves the consumer’s wallet to the moment it hits your Production Company Revenue stream. But what we’re looking at here is the Production Company Revenue and how that turns into Net Profits.
So let’s assume for the sake of argument, that we’re dealing with a simple MG (Minimum Guarantee) that’s paid out upfront to the production company. How does that MG trickle down into recoupment and profits for the investor? You have to be able to explain this to an investor. First thing to note is that EVERYTHING IS NEGOTIABLE. Nonetheless, there are “standards” that I tend to see over and over, so let’s take a look at those standards, and just know that you can always negotiate a deal to whatever better fits your project.
“Recoupment of Investment”
This will be one of the most important clauses in your financing agreement, and one that investors will pay special attention to. This basically explains what happens to every dollar that comes into the company. Usually the first things to be deducted are “actual, out of pocket, third party costs paid in connection with the distribution and exploitation of the Picture, including taxes, sales agent fees, distribution fee(s), collection account fees and expenses, residuals.” Basically this is telling the investors that sales agents, distribution companies and applicable unions, etc., are going to take a cut before the production company can truly see any money.
After that, you have to repay any loans (including applicable interest and financing fees). These loans (sometimes Gap/Mezzanine financing) are often the last dollars to come in, but they are the first to be repaid. On the other hand, these loans do not participate in the potential profits of the film. Lower risk, lower reward. In order to protect themselves, investors will want to see a cap/limit to the loans a production company is allowed to take on. The investor doesn’t want the company taking on TOO many loans, because the more loans the company takes on, the more investors will have to wait to recoup their investment. The exact amount is negotiable.
After loans are repaid, that’s usually when investors start to recoup their investment. Since it’s usually about 1 – 2 years before they get to this point, they’ll want to receive a premium on their initial investment. Usually this premium is 20%. So if an investor invested $100, they would recoup their initial $100 plus a $20 premium. Again, everything is negotiable. You can negotiate the premium to be 15%, 25% or anything else you choose — however, I highly recommend that you make ONE deal for ALL investors. You will find yourself up against a corner if you start giving different investors different terms.
“Percentage Share of Profits”
Once investors have been repaid their initial investment + premium, now you can start splitting the remaining moneys. Before you go into Net Profits, it’s possible you may have promised certain cast & crew deferred payments. This is the point where these deferments are paid. The investors will want to keep a limit on the allowable deferments as well, because the more deferments are paid out, the more they’ll have to wait until they can take in their Net Profits. As a filmmaker, you’ll want to have enough wiggle room here in order to make more attractive deals with cast & crew during production.
Finally, after deferments are paid out, we can officially label the remaining funds, if any, Net Profits. The Net Profits is typically split into two pots: the Investor’s Share of the Net Profits, and the Producer’s Share of the Net Profits. This is typically split 50-50, but again… this is entirely negotiable. Investors will receive a “proportionate share” of the Investor’s Share of Net Profits. In other words if the Investor’s Share of the Net Profits is $200, and ‘Investor A’ invested half of the budget, then ‘Investor A’ will receive $100 of the $200 profits.
Other than how investors receive their money back, there are other rights they might want to ask for, and it’s up to you whether you’re willing to give them:
- Voting Rights
- Veto Rights / Right of Refusal
- Mutual Approval Rights
- Meaningful Consultation Rights
Investors may want these rights on a number of issues that, in some way, will affect their investment. This could be related to:
- Distribution of the Picture
- Casting of the Main Talent
- Final Cut of the Picture
- Investment in Sequels, Prequels, Spinoffs
The list can go on and on, but these are some typical examples. What rights are you willing to give to your investors? That’s something you should consider very carefully and decide on before they ask for it. Lastly, a right investors will always have (and anyone participating in Net Profits) is the right to audit you at their expense.
So… ready to start your company and officially make your feature film?