SPI Report for PACT April 2010

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A NEW BUSINESS MODELFOR UK FILM PRODUCERS

APRIL 2010



A New Business Model for UK Film Producers

April 2010

The fundamental concept behind our proposals is thatcontent creators would retain substantial ownership ofintellectual property and have greater access to revenuesfrom the films they create. This will lead to strong,entrepreneurial businesses than can attract outside financeand become the bedrock for the growth of the sector.

The adjustments we suggest are simple and cost-neutral.This is not about seeking more funds. It is concerned withusing what is already on the table to create organic growth:

growth that is based upon success rather than subsidy.In our vision, the public entities which have been so

supportive of the sector will continue their activities, buttheir objective will include empowerment of independentfilm companies rather than intervention on the sector’sbehalf. Responsibility and motivation for building asustainable film ecology will be handled within filmbusinesses instead of public agencies.

The public policy objectives for film will be moresuccessfully met than is the case today. The cultural aimsthat underpin UK policy will continue to be fundamental tothe sector’s development. There will be more avenues for

new and diverse voices. The UK is globally recognised as asource of new and established talent and we need a thrivingsector that can secure that talent’s future here in the UK.

It is vital that these changes happen now so that contentcreators are in a position to take advantage of the digitalrevolution, where disruptive technologies have changedconsumer behaviour and are creating new ways of reachingaudiences. This disintermediation will allow content creatorsto move up the value chain by having more direct

relationships with their customers, but opportunities will bemissed unless film businesses have the financial strengthto serve as a platform for this expansion.

Our measures avoid the ‘quick fix’ philosophy that hasbeen tried before to address sustainability using imposedrather than organic solutions. Sometimes it is better to havea ‘good’ idea than a ‘big’ idea, and Pact believes this reportis filled with good ideas – that will work.

John McVay

London, April 2010

We at Pact believe there is a unique opportunity to createa new strategy for the public funding of UK film productionthat could, at last, foster the kind of ‘sustainable’ film sectorthat has for so long been a goal of public policy.

Forewordby John McVay, Chief Executive, Pact

Report prepared by the creative industriesconsultancy Olsberg|SPI.

Olsberg|SPI, 4 Junction Mews, London W2 1PN

T: + 44 20 7402 1300 • F: + 44 20 7402 [email protected] • www.o-spi.com



A new business model for UK film producers

April 2010

Table of contents

1 Introduction to the report 4

2 A new concept for developing world class

UK film businesses 6

2.1 The vision 6

2.2 The Pact proposals in summary 8

2.3 Advantages for the public sector 8

3 The talent and capabilities exist:

now the system needs to change 9

3.1 Current obstacles to growth of UK filmproduction businesses 9

3.2 The competitive disadvantage faced byUK producers 10

3.3 The financial weakness of UK producers 10

4 Responsibility for sector growth 11

4.1 Empowerment 11

4.2 Taking advantage of the distributionparadigm shift 11

4.3 Achieving growth 12

4.4 A wider range of films 12

5 Protecting cultural filmmaking/

developing new and diverse talent 13

6 The resulting scenario 14

6.1 Celebrating and safeguarding ourfilm culture 14

6.2 Assisting our film industry 14

6.3 Nurturing our film talent 14

Appendix 1

The Pact proposals in detail 15

A1.1 ‘100%/recycled’ 15

A1.2 The film depository receipt system 16

A1.3 Tax credit as producers’ equity 16A1.4 Terms of Trade with public service

broadcasters 17

A1.5 Containment of legal and finance costs 17

A1.6 Higher rate of tax relief for low budgetfilms 17

Appendix 2

Public sector financial support measures

for UK film 18

A2.1 Key public financiers and financial support

measures 2007–8 18A2.2 Reduced funding environment 18

Appendix 3

International comparison – public agencies

and broadcaster financing 19

A3.1 Summary of international analysis 19

A3.2 Details of international comparison 21

A3.3 Comparing international revenue models 26

Appendix 4

Regulatory Issues 27

A4.1 State aid issues 27

A4.2 Lottery issues 28

Appendix 5

About Pact 29



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April 2010

This report has been commissioned as an independentreport for Pact, by Olsberg|SPI and was developed throughan extensive programme of research and consultation inthe UK and international film industries. It proposes acompletely new strategy for creating a healthier, morerobust and successful UK film production sector, ready totake on the challenges and opportunities presented by thedigital age. The new strategy will deliver true public value byconsolidating the sector’s position as a major driver ofactivity within the UK’s creative economy.

Despite the best intentions of public policy to date the‘sustainability’ of the sector, no matter how it is defined,remains an elusive goal. But it is a crucial goal and has beenacknowledged as a cornerstone objective for public filmpolicy for many years. In its earliest days the UK FilmCouncil, in its 2001 paper ‘Towards a Sustainable FilmIndustry’,1 wrote of its ‘longer-term undertaking aimed atgenerating change within the industry at a structural level

in order to create a truly durable business sector’.The failure of the system is particularly true for production

businesses that create intellectual property assets, oftenwith the help of public money. These companies normallycan neither retain the fair value of these assets, normaximise revenue streams, because of the way the fundingoperates. This has sustained a dependency on project-basedpublic funding that we wish to break.

The way to transform this is by creating a genuinepartnership between public and private investment: afunding system that encourages organic growth of filmbusinesses involved in production. This transformation

would be founded on gradually increased profitability: thenormal way in which successful companies are created inany business sector. Pact realises that forced solutions donot work and that only over time, as financial strength andperformance is built, will companies become trulyinvestment-ready and ‘a truly durable business sector’emerge.

Under the new Pact proposals film companies will benefitfinancially from making successful films; they will be ableto invest in their own films and, from a stronger financialbase, also diversify their business models. Suchdiversification would include taking advantage of theparadigm shift that the digital age has brought about in theways in which content is delivered to consumers.

The changes in mechanics are straightforward andfocused on the overall, joint principles that:

G Recoupment of public investment in films should accrue100% to the production businesses that created them,and

G The majority of the revenues so generated should bering-fenced for exclusive future use, by those businesses,in the development and production of UK films.

Diagram 1 (see page 5) describes the gradual, organicdevelopment of the sector over time and a selection of thecharacteristics of that growth.

The remainder of this report outlines this proposal in moredetail and offers comparisons, evidence and projections thatsupport the new strategy. The information is presented as

follows:

Section 2: A new concept for developing world class UKfilm businesses

Section 3: The talent and capabilities exist: now thesystem needs to change

Section 4: Responsibility for sector growthSection 5: Protecting cultural filmmaking/developing

new and diverse talentSection 6: The resulting scenario

Appendix 1: The Pact proposals in detail

Appendix 2: Public sector financial support measures forUK filmAppendix 3: International comparison – public agencies

and broadcaster financingAppendix 4: Regulatory issuesAppendix 5: About Pact

References

1. From the foreword by Alan Parker CBE, Chairman

1Introduction to the report



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April 2010

Diagram 1: Forecast growth of UK film sector

G Suggested policy levers enacted

G Producer in stronger negotiationposition (gradually retaining IP)

G New voices continue to besupported by public sectorinvestment

YEAR 1

G Increased private investmentdrawn into sector for projectsand companies

G Content creators exploiting IP indigital age

G Range of strong, diversified filmbusinesses emerges

G Initial public sector fundsconstantly leveraged andre-cycled on-screen

G Talent development opportunities

expand

G Entrepreneurial talent attractedto sector

G General benefits to wider UKsector increase

G Interests of public policy, privatesector, content creators andconsumers more closely aligned

G UK public enjoying range ofhigher quality films (longerdevelopment and more ambitious

projects possible)

G Film strengthens its position ascore participant in UK’s creativeindustries

G Public policy objective ofsustainable film sector beginningto be met

YEARS 4 – 5

G Broader range of quality UK filmswith funding increasingly sourcedfrom the private sector

G Producers with ability to put ownfinancing into their films

G Producers developing newbusiness models anddiversification strategies

G Increased private investment incompanies with tangible assetsand growth prospects

G Growth of producers createsbenefits for UK talent

G Returns from successful filmsring-fenced for future investment

YEARS 2 – 3





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We believe the situation can be transformed, withoutcalling for additional funding or indeed major changes inthe way investment decisions are currently made. Theobjective of our proposals is to shift responsibility for thegrowth of the sector to those production businesses which

do some or all of the following:

G Consistently make films that succeed with consumers;G Understand how to attract private finance – both project

and corporate;G Take advantage of emerging opportunities in the area of

digital distribution; andG Demonstrate entrepreneurial capability to build

diversified companies of scale.

The overriding principles behind our proposals are to:

G Ensure production businesses recycle the bulk of theirrevenues into the development and financing of futureUK films;

G Optimise producer ownership of the intellectual propertythey create;

G Enable content creators who make successful films tohave greater access to the revenues that result; and

G Enable the creation of stronger, and in many casesdiversified, film businesses of scale.

The following diagrams describe how we estimate themeasures proposed by Pact would alter the film fundinglandscape in the UK.

The measures recommended in this report will result in agreater number of successful film companies, with healthierfinancial results, which will be more attractive to corporateinvestors and lenders and thus have real opportunities tobecome ‘investment-ready’.

Corporate and project finance from trade sources andfinancial institutions will become a better proposition if thebasic UK producer business model is improved. There isevidence this would work, for we have seen the transformationof many UK independent television production businesses

that resulted from changes to ownership rules and greateraccess to revenues.5

Financially stronger producers will have greater leveragein all their project negotiations and therefore in a positionto further secure a greater share of revenues from theirfilms. Companies that are more solid will also be betterpositioned to explore new business areas opened up by howdigital innovations are changing the world of distribution.

All this can be achieved without major changes to the waythat public entit ies currently operate, respecting, forexample, their vital support for new and diverse filmmakingvoices and talent.

References

5. Since the introduction of legislation leading to Terms of Trade betweenbroadcasters and independent television producers, the independenttelevision sector has doubled in annual turnover. Within this, companies ofsome global scale have emerged: the top seven independents according toturnover now generate revenues of more than £1.1 billion, twice as much asin 2003. Figures are from the Pact annual census and the Broadcast annual

survey of the independent production sector. For further information [email protected]

Diagram 2.1b:Breakdown of finance structurefor typical UK independent film:year 1 (2009)

Private equity

Public equity

Tax credit

Pre-sales (inc. UKbroadcasters)

Gap finance

14%

14%

22%

20%

30%

Diagram 2.1c:Anticipated breakdown of financestructure for typical UK independentfilm: year 5 (2014)

Producer equity

Private equity

Public equity

Tax credit

Pre-sales (inc. UKbroadcasters)

21%

15%

14%

22%

28%



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April 2010

2.2The Pact proposals in summary

In order to achieve the vision described herein, we proposerelatively simple adjustments of a few ‘levers’ of policy that

will deliver an improved business model for productioncompanies. Most of these deal with how recoupment ishandled, combined with ‘ring-fencing’ the bulk of suchrecouped funds for specific use in the future developmentand financing of UK production.

In summary, there are several interlinked ways to achievethis:

G ‘100%/recycled’

100% of the recoupment of public investment shouldaccrue to the UK production company, with 70% of suchrecouped funds being ring-fenced and only available toinvest in future development and production: the FilmDepository Receipt (‘FDR’) system.

G Film Depository Receipts

The FDR system acts as a ‘lock box’ whereby 70% ofmonies recouped are placed, on the production company’sbehalf, in an interest-bearing escrow account with afiduciary agent such as the National Film TrusteeCompany. These accumulated funds may be accessedonly by the production company and used only for thedevelopment and finance of future UK films beingproduced by that company.If such FDRs are not ‘cashed in’ within 5 years of theircreation, then the funds revert to the public entity/entitieswhich generated the initial investment, for furtherinvestment in development and production.

G Tax credit as producer’s equity

100% of the tax credit should be treated as producer’sequity investment and this amount would therefore sitin the recoupment waterfall.

G Terms of Trade with public service broadcasters

A new deal structure to incorporate the following termsfor licences:G A reduction in the length of the licence period to 5

years; and

G A new ‘use it or lose it’ provision under which rightswould revert to the producer if the broadcaster wasnot utilising its broadcast rights.

G Containment of legal and finance costs

In order to save costs and speed up decision-making thepublic entities should agree a pro-forma set of principallegal documents which would apply to all their films.

G Higher tax credit for low budget films

We support the House of Lords CommunicationCommittee’s proposal for the tax relief level to be raisedto 30% on UK films with a budget of less than £5 million.

Appendix 1 contains further details of all the Pact proposals.

2.3Advantages for the public sector

Pact’s proposals represent a major shift in the relationshipswithin the film ecology, characterised by greater partnerships

all around. The interests of the public sector, contentcreators, private investors and consumers will be much moreclosely aligned.

G The public agencies and producers will no longer be inopposition regarding Terms of Trade and share ofrevenues;

G Public investment will be leveraged to a much higherextent by production businesses that can raise moresubstantial investment from private sources;

G The development of the sector will be less reliant on, andless of a burden on, public finances which will liberatepublic investors in their investment choices;

G The quality, range, size and variety of films should all beenhanced – delivering the cultural and economic benefitsthat are sought by public policies, as well as films thatUK (and overseas) audiences can enjoy;

G Innovation for the digital age will be carried on bystronger film businesses;

G UK filmmaking skills and creative talent would have alarger palette and greater opportunities;

G Reduced costs and less time needed for film financetransactions delivers greater efficiency for public andprivate investors; and

G The original public policy objective of a sustainable film

sector would at last be met.



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3.1Current obstacles to growth of UK filmproduction businesses

The cultural and economic benefits that accrue to anycountry with a healthy film sector are now globallyrecognised. This has created a film environment in mostcountries characterised by meaningful support and fundingfrom public sector sources. Generally speaking, only themajor markets of Hollywood and Bollywood survive withoutpublic ‘subsidy’ and even the individual states of the USAhave now introduced a plethora of funding schemes in orderto build their production volumes.

Public policy objectives aimed at growing UK productionlevels usually are in pursuit of joint aims:

G To build a strong indigenous sector that delivers culturaland economic benefits to UK Plc; and

G To maximise the level of inward investment throughattracting portable productions.

In recent years the UK has been particularly successful inthe latter objective. Current inward investment volumes areat historic highs and the first quarter of 2010 is likely to seeimpressive levels of expenditure from overseas, particularlyfrom US studios.

The UK has been less successful in building a strongindependent production sector. This is despite the clearevidence that UK independent filmmaking skills andcompetences, both behind and in front of the camera, are

second to none. It is important to recognise the role thatthe public sector entities have played in reaching this levelof achievement.

A significant reason for this failure in creating asustainable UK film industry is the typical financing structurethat UK independent producers have to use in order to gettheir films made. This is characterised by a combination of:

G Complex, multi-party structures where producers findthemselves without negotiating leverage because theyare unable to provide their own funding;

G Investment terms from public bodies (for example theUK Film Council) that have prioritised their recoupmentover producer earnings;6

G Difficult market conditions under which previous fundingsources (pre-sales, gap finance) have become extremelylimited;

G A limited ability to attract treaty co-productioninvestment because of the tax credit rules and (in relationto Europe) not being a member of Eurimages;

G Complex legal documentation which is rarely finalised intime for the major cash requirements to be funded; and

G The high costs of finance in relation to fees, banking andlegal costs that multiple third party financiers impose onthe budget.7

Producers in the UK have adjusted over the years to thesedifficulties in part by attempting to keep budgets down in the

face of increased costs of production.8 But these effortshave been insufficient to alter or improve the basic businessmodel.

These negative factors combine to create an environmentwhereby UK producers are far less rewarded when theymake films that succeed with audiences, than they shouldbe. UK producers are unable to secure substantialintellectual property rights. The risks involved in producingin the UK are not matched by commensurate returns fromsuccessful films. Accordingly, production businesses areunable to attract corporate investment from normalbusiness sources and are condemned to remain financially

weak.

3The talent and capabilities exist:now the system needs to change

References

6. This has been recognised by the proposed changes to recoupment set outin the UK Film Council: DICE consultation document.7. We estimate such costs in the UK are at least twice the level found incountries such as France and Germany.8. The average (median) budget of a UK independent film has dropped from

£3.1m in 2003 to £1.9m in 2009 (Film Production in the UK – Full Year 2009Report)



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3.2The competitive disadvantage faced by UKproducers

The weak position of UK production businesses is

particularly disturbing when compared to independentproducers from other countries.

In the other large European film markets, such as Franceand Germany, the funding structures, and consequently theproducer business models, deliver significant rewards toproducers who make successful films due to relatively goodTerms of Trade with public and private investors. This hasresulted in many production companies reaching substantialsize and financial strength.

This difference is demonstrated by the following summarywhich compares the financial results of the samehypothetical film with a ¤5 million budget and revenuesavailable for financiers of ¤3.2 million. The results are shownfrom the producer’s perspective assuming typical businessmodels for domestic films in the UK, France and Germany.Details and assumptions used in this comparison are shownin Appendix A3.3.

3.3The financial weakness of UK producers

The weaknesses referred to above are evidenced in a reportrecently commissioned by the UK Film Council titled

‘Analysis of the Corporate Finance of SMEs in the UK FilmIndustry’.9 This report covered businesses along the valuechain and its findings, particularly about independentproducers, are revealing; they include:10

G In general, the frail state of balance sheets is a concern;G Film businesses should do more to use their IP to secure

corporate finance;G There are few instances of private investment in film

businesses and the ‘equity gap’ in the UK film industryis wide;

G Public sector investment in film businesses, as opposedto film projects, is minimal;

G Independent, stand-alone production companies are theleast liquid and over half recorded retained losses at theirlast balance sheet date;

G Yet films produced by the independent sub-sector tend tobe the most popular amongst cinema audiences.

Pact’s reading of this analysis fits with its own experiences,and those of its members. UK independent producersconsistently make films that work with audiences and criticsalike, yet the current business model prevents them beingable to benefit financially and therefore the growth of theirbusinesses is substantially inhibited.

The proposals in this report would, over time and in anorganic way, overcome these obstacles.

References

9. Completed in October 2009 by Northern Alliance Limited.10. The following list is taken from the report.

Production companyshare of revenues fromthe film’s sales

– 158 175

Production companyown investment

‘Profit’ on investment

Revenue shares(¤ ‘000)

UK France Germany

– 500 500

– 32% 35%



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4.1Empowerment

Despite the challenges of the UK independent producerbusiness model, we believe it is possible to shift the balanceof responsibility away from an over-reliance on public sectorfinancing. The focal point of this strategy is to presentrealistic opportunities for entrepreneurial productioncompanies to grow and to involve the (hitherto reluctant)wider private investment community. This has long beensought but will not be attainable until the basic businessmodel of the producer stands up to scrutiny regarding thebalance of risk and reward.

In order to achieve this shift, a public sector film businessstrategy is needed that supports the empowerment ofproduction businesses rather than, as currently exists, onethat focuses much more on the direct intervention of publicagencies to provide the solution.

This report is not seeking more public money going intothe sector. Far from it – the approach is to make much moreof the funds that already exist and to use them to leverageadditional finance from elsewhere, particularly tradeinvestors and financial institutions.

We also suggest very little change in terms of how thesector currently makes its investment decisions. Rather, theproduction community is proposing a shift in the currentTerms of Trade with public financiers to enable real, powerfuland long-lasting structural change. There is substantialevidence that such adjustments can make a real differenceto independent production businesses – witness the

transformation in the UK’s independent television sector.We outlined in Section 2.2 (details in Appendix 1) a numberof relatively simple adjustments or ‘levers’ to be used tomake this shift away from public sector reliance to a newage of entrepreneurship, private investment and suitablereward for taking risk.

4.2Taking advantage of the distribution paradigmshift

The quickening of digital innovation is increasingopportunities for content makers to take advantage ofchanges within the distribution ecology. This disintermediationmeans that the filmmaker is becoming ever closer to theaudience. Throughout the sector, questions are now beingasked about the precise role of intermediary elements activein connecting films and audiences.

Stronger companies with greater financial resources andretaining a larger share of rights will be better placed totake advantage of these changes and develop new ways ofexploiting their intellectual property. Whilst this re-orderingwithin the industry is in progress, engagement andexperimentation with changing business models will be keyto future success and growth. Weak companies will be

disadvantaged, whereas successful businesses with asustainable operating model will be at the forefront ofchange.

4Responsibility for sector growth



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4.3Achieving growth

Various estimates of the level of UK independent productionhave put it at around £250m a year. This had been a

remarkably consistent figure from 2004 to 2008. Howeverthe level of UK independent production dropped significantlyin 2009 to £204m while at the same time inward investmentproductions reached record levels (£753m). Thus the overallcapacity of UK film production is substantially higher thanis accounted for by the current independent sector. Thegeneral opinion of participants is that the ceiling is far fromhaving been reached.

Apart from the overall reduction in activity, the mainchange over this period has been the drop in official co-productions which in 2003 accounted for an unusually high37% of the total spend but in 2009 was only 17%.

Pact believes its proposals will result in (UK independent)production levels returning to and exceeding the recordlevels of 7 years ago. The characteristics of this growth willinclude:

G It would be achieved gradually and organically, based onnormal business principles that apply to every economicsector around the globe: namely profitable, sustainableand diversified film businesses with genuine growthpotential that attract private project and corporateinvestment – currently almost completely absent fromthe UK independent production sector;

G Publicly-sourced discretionary funding would contribute

a greater financial underpinning because 100% of theassociated recoupment will be circulated within theprivate sector;

G Greater resources (time and money) would be availableduring the development phase, resulting in higher qualityfilms;

G An increase in average budgets and greater quality onscreen;

G An increase in the level of co-productions would result,whereby UK producers will have their own financialresources to contribute rather than relying almostcompletely on a tax credit that currently militates against

such participations; andG The production capacity for growth clearly exists, as the

figures above show, with the possibility that a morehealthy balance could be achieved between inwardinvestment (always affected by the vagaries of thecurrency exchange markets) and independent production.

4.4A wider range of films

Pact does not necessarily expect a greater number of UKfilms to be made, but certain characteristics would change.

With greater financial resources at their disposal,producers will commit more funds and time to developmentof projects. They would be in a much better position to resistthe temptation to move into production before a project isfully ready in order to earn a fee, because downstreamshares of revenues are unlikely under the prevailing model.Furthermore, since such fees often have to be deferred inorder to secure outside risk funding, so the vicious circle ofunhealthy business practices is maintained.

We also anticipate UK independent producers will havethe ability to raise bigger budgets for their films. Ascompanies build financial strength and are better able toattract outside finance, that limited sources of finance andover-reliance on public money will become less of aconstraint. This greater ambition should lead to UKindependent producers being able to produce (and own)larger budget British films hitherto mostly funded outsidethe UK. Examples of Mamma Mia and The Constant Gardener

come to mind.Producers with more substantial resources will continually

seek new and diverse UK film voices – this has always beenthe foundation of our industry’s profile. They will be betterplaced to house such emerging talents and to share therewards with their fellow content creators.



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Additionally, the stronger and better-capitalised filmbusinesses that would emerge will be better placed to houseor ‘umbrella’ new talent.

A proposal that will assist is the suggestion, which Pactsupports, recently made by the House of LordsCommunication Committee for the UK tax relief level to beraised to 30% on films with a budget of less than £5 million.

Furthermore, UK film businesses will become strongerover time, and able to source private finance for theirprojects and companies. They will therefore become lessreliant on sources of public funding for development andproduction support. This will leave more room for so-called‘cultural’ filmmaking and Pact anticipates that a greaternumber of such films will be supported than at present.Additionally, stronger companies will be better placed to‘umbrella’ new talent, being able to take more risks thansmaller, stand-alone companies.

Public funders currently commit fresh annualdiscretionary funding considerably in excess of £50m. ThePact proposals leave the decisions as to which films tosupport completely in the hands of the public fundmanagers. Even though recoupment from such investmentwill be diverted into the control of the intellectual propertycreator, the annual funding remains available for the support

of all films. Pact anticipates a gradual increase in theproportion of these fresh funds committed to ‘cultural’filmmakers. As these films tend to have lower budgets thisimplies a larger number of such films will be supported thanis currently the case.

Of course if the films are successful in the marketplace,the filmmakers are strengthened by having 100% of therecouped sums available for their future use.

5Protecting cultural filmmaking/developing new and diverse talent

Every thriving film sector depends on reinvigorating itstalent base with a constant stream of new, diverse andinnovative film voices. It will be important, therefore, tocontinue the work done by the public entities in discoveringnew and unproven voices and giving opportunities tofilmmakers with diverse and sometimes challenging views.It would therefore be necessary to maintain an appropriatelevel of funding, across all the public sector film entities,for films from these filmmakers (e.g. the first and second

time filmmakers which are the focus of the UK Film Council’snew single production fund).



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The vision contained in this report is of a UK independent filmproduction ecology that in, say, five years from now wouldhave the characteristics described below. This would involvea lessening in the overall reliance on investment and otherdecisions from public agencies, but where those entities andthe film community collaborate in driving growth and success.

For ease of analysis, these characteristics are clusteredunder the 3 elements of the UK Film Council’s missionstatement:11

6.1Celebrating and safeguarding our film culture

G UK and global audiences have access to a broader range ofhigh quality UK films in the cinema and across all platforms;

G UK films and filmmakers enjoy an increased level of globalsuccess in making films that work with the audiences forwhich they are intended;

G The UK film sector strengthens its position as a coreparticipant in the UK’s creative industries, illustrating thedynamism, creativity and opportunities that are typical inany world class creative economy; and

G Stronger, diversified film companies are better placedthrough digital distribution, to exploit their library rights,especially with improvements in high-speed broadband,thus providing audiences with greater choice in how theyaccess films.

6.2Assisting our film industry

G The production businesses that create content own alarger portion of their intellectual property and a greatershare of the revenues that are generated by films thatsucceed with consumers, creating a better balancebetween risk and return;

G The UK film environment is populated with businesses ofvarying size and efficiency, but among them has emergeda group of strong, well-financed, entrepreneurial companiescentred around more consistently successful production;

G These film businesses of scale are attractive to privateinvestors, whether financial institutions or strategic tradepartners, that provide funding for both film projects andcorporate growth;

G These businesses also attract new potential partners andinvestors who are examining opportunities in film, fromadvertisers looking for brand association possibilities, tomajor retailers such as Tesco;

G The new, stronger film companies will also be attractiveto entrepreneurs and executives from outside the sectorwho hitherto have resisted becoming involved in filmbecause of the weak business model;

G The value of UK independent production has at leastdoubled;

G Production businesses of whatever size have theopportunity of being active at other points of the valuechain, notably by having entered into digital distributionof their own films;

G A less complex finance structure for individual films, withproducers providing a larger portion of the finance andfewer funding partners (and therefore lower transactioncosts), that reduces the risk of films falling apart.

6.3Nurturing our film talent

G The UK produces an even broader range and variety offilms that showcase the skills, talent and achievements ofour film community;

G Career and diverse job opportunities increase as thevolume and quality of sustainable production grows;

G Producers would have revenues to share with the writersand directors who co-create the content, strengtheningthe links between the talent teams that are the

foundation of UK independent filmmaking;G The funding required from public agencies for

commercially-driven films is increasingly met from theprivate sector, releasing more funding for emerging talentand first time filmmakers;

G Stronger and better-capitalised film companies will bebetter placed to house and develop new and diversetalent; and

G UK filmmakers enjoy greater success with internationalawards for themselves and their films.

References

11. Described in the UK Film Council’s publication: Digital innovation andcreative excellence(November 2009)

6The resulting scenario



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References

12. From the UK Film Council, the national and regional screen agencies, BBCFilms and Film 4. )

A1.1‘100%/recycled’

This is a fundamental element of our proposal and reflectsa shift in thinking about the purpose of public sectorinvestment in the development and production of UK filmsby UK producers. Up until now, the entities investing publicmoney12 have emphasised their need to recover, and keep,most if not all of the amounts that are recouped from theirinvestments.

These recouped funds have not always been recycled intofuture similar investments. In fact up to now the UK FilmCouncil, for example, has used the funds for a variety ofpurposes, including a funding contribution to the agency’soverhead. After years of resisting the change, the UK FilmCouncil has now suggested all its recouped funds arerecycled into future investments, except for a 30% corridorwhich would go to the producer of the film. Several of the

other public entities now recognise the principle of thisproducer corridor.

Our proposals take this new concept a step further,without any alteration to the creative decision-makingprocess of public investments. They will, however, removethe need for the business affairs efforts of the public entitiesto be so focused on recoupment in order to meet internaltargets. Judgements as to commercial potential will in futurebe much more the concern of the production companies,who will be optimally motivated to make successful filmsbecause the rewards, under our proposals, accrue, to a muchgreater extent than now, to them.

In order to create conditions for the growth of UKproduction businesses, and also break content creators’dependency on these entities, we propose that 100% of thesums recouped from such investment are channelled to theproduction company, not the 30% currently proposed. Atthe same time, the principle of recycling the funds intofuture production is maintained in our proposals, in that70% of such funds would be secured for future investmentin the development and production of UK films.

The mechanism for ‘ring-fencing’ these recouped fundsis a new concept: a so-called ‘lock box’ created specificallyfor this new system – the Film Depository Receipt (FDR).This is a financial instrument described in detail below. Theeffect is to ensure that at least the same amount of funding

as at present (i.e. 70%) is secured for future investment,while the investment decisions are the responsibility of thecontent creators. These recouped funds, evidenced by theFDR, may only be used by the holder (the UK productionbusiness) for future investment in the development andproduction of UK films. If the funds are not so used withinfive years, the FDR is terminated and the funds held inescrow are returned to the public body or bodies thatoriginally invested in the films.

This approach reflects a shift in emphasis at the entitiestowards a much healthier empowerment of the sector, withstable and long-term growth as the aim, rather than directintervention and control.

Appendix 1The Pact proposals in detail

Please note that any enquiries concerning the sources

of information for any of the data in these appendices

should be directed to [email protected]



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April 2010

A1.2The Film Depository Receipt system

The concept of depository receipts is to be found throughoutthe world of financial instruments and its proposed use here

reflects the desire to apply increased professionalism andfiduciary responsibilities to the world of independent filmfinance. We have found that investors with no filmexperience are discouraged by opaque systems and complextransactions that increase their perceived risk in becominginvolved. This of course is different to the inherent riskassociated with independent film investment where(currently in the UK) the returns do not accrue to contentcreators in the way they do in other countries and industries.

Using the FDR system reflects a new and seriousdetermination to improve not only the basic business modelbut also the mechanisms surrounding the making andexploiting of UK films.13

The FDR is a cornerstone of the proposals made in thisreport and it is designed to ensure that recouped funds frompublic investment remain available for future investment,by the FDR owner (the UK production company), in thedevelopment and production of UK films.

The use of FDR still leaves control over such resources inthe hands of the producer rather than the public entitymaking the initial investment. This transfers responsibilityfrom the public to the private sector while strengtheningthe UK producer’s business model.

The FDR system could be administered by a collectionsagency such as the National Film Trustee Company which

would already have the kind of administrative andcommunications systems in place to deal with thetransactions. A new protocol would be established toregulate how the FDRs are created and safeguarded.

For example, the recouped funds would accrue in the FDRaccount at different times during any given year – soconsideration should be given to fixing a maturity date 5years from the year end in which the revenues are received.In order to safeguard against improper use of FDRs (in non-qualifying expenditures) a system would be created fordrawdown consents.

A unique feature of the FDR is that it can be treated as an

asset. It could be noted on the balance sheet of the ownercompany yet be protected from normal business creditors.The FDR would have a life span of 5 years commencing fromthe date it is issued. Its face value will be enhanced byinterest accumulating on the deposit, less a smalladministration charge. The owner of an FDR will ultimatelyforfeit its right to the asset if it is not used within 5 years. Insuch cases, the accumulated cash will be passed over to thepublic investor(s) who funded the original production.

A1.3Tax credit as producers’ equity

When the new tax credit system was proposed in 2005 amajor motivation was to attempt to improve the position of

the UK producer in those films that garnered support fromthe public purse through this ‘rebate’ mechanism. This hasnot been universally achieved.

This motivation sat alongside another objective, whichhas been met to a much greater extent: to make the UKeven more competitive when seeking to attract majorinternational productions to locate, shoot and post-producein the UK.

Turning back to the content creator’s position, the effectof the tax credit has been primarily to reduce the risk of theinvestors by effectively reducing the cost of the film.Because of their weak business models, UK producers aregenerally unable to invest alongside third-party entities(including public agencies) and therefore do not gain in thisway. By reducing the net cost, an obstacle to financing wasreduced, but the producer’s position in the structureremained weak.

In recent times, some established producers have beenable to persuade public sector investors to allow the taxcredit to be treated as genuine producer’s equity. But this isby no means universal or even typical, and it rarely happenswhen private sector funding is part of the finance model.

Our proposal is to have enshrined in practice the principlethat the tax credit is and must be treated as recoupable bythe UK producer. This should apply to all films where the

tax credit appears and where public funding is involved.In business terms, when dealing with private investors,

UK producers might still be pressured to share some of thisnew benefit. But under this new system the producer wouldbe negotiating from a position of much more leverage.Indeed, the producer would accumulate more financialresources of its own over time. This financial strength wouldmean the producer would also be able to invest its own fundsas a more equal partner in its films.

References

13. See Appendix 3



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April 2010

A1.4Terms of Trade with public servicebroadcasters

BBC Films and Film 4 have been stalwart supporters of the

UK independent film community and their expertise andfunding has been crucial to the creation of films, andfilmmaking talent, of global appeal. These films deliver astrong impression of the UK’s life and lifestyles and thebroadcasters are true cornerstones of public sector supportfor the UK film community.

Nevertheless, the terms on which they invest inproductions can also have the effect of weakening theproduction company as regards their recoupment demandsand approach to negotiating Terms of Trade.

Under our proposals, their situation regarding recoupmentwould change as their investments would in future besubject to the ‘100%/recycled’ structure.

Furthermore, we propose a reduction in the length of thestandard licence period to 5 years and a new ‘use it or loseit’ provision under which rights would revert to the producerif the broadcaster was not fully utilising its broadcast rights.

A1.5Containment of legal and finance costs

Many UK independent films involve funding from one, orindeed several, of the UK public entities. In order to save oncosts and speed decision-making these entities should agreea pro-forma set of principal legal documents which would

apply to all their films.There have been some attempts by leading film lawyers to

establish a code of compliance for all public sector investorsthat would simplify and short-cut much of the complex andtime-consuming work involved. These efforts did not securesupport from the commercial lawyers whose fees might bereduced if the work load was also reduced, perhapsunderstandably. But public sector business affairs executiveshave worked together frequently over the years and are ina good position to insist on simplification and drive throughchanges.

The resultant reductions in costs would enhance the

earnings position of all parties and a reduction in complexitymight remove one of the obstacles to private sectorinvestment in UK films: the risk associated with delays incompleting legal paperwork and the rather opaque nature oftransactions. This of course is in addition to potentiallyincreasing efficiency in the delivery of public investment.

In fact a by-product of the changes in recoupment wouldbe the greater alignment of interests of the producer andthe public entity business affairs representatives. In fact thelatter, with their vast experience of such deal-making, couldprovide an even greater service to the UK producer duringthe process of dealing with third parties.

A1.6Higher rate of tax relief for low budget films

The tax credit rules already recognise the differenttreatment of films costing more and less than £20 million,

providing a higher proportion of the UK budget for lowerbudget films. This acknowledges a desire to prioritise UKindependent films, which tend to have lower budgets thanmost inward investment productions.

The House of Lords Communications Committee hasproposed going a step further in accepting the need toaddress the difficulties faced by even lower budget filmswhich do not have major market elements that enhanceprospects for raising market driven funding, through pre-sales for example. These issues are exacerbated by the factthat UK producers face further difficulties in securing co-production finance, the availability of which has drasticallyreduced following the new tax credit rules.

The Committee proposes that the tax relief level be raisedto 30% on UK films with a budget of less than £5 millionand we support this suggestion. It will help to make availablefunding for many smaller films from filmmakers with newand diverse voices whose talent is essential for refreshingthe UK’s film ecology.

We anticipate that higher corporation tax yields frommore profitable activity for the sector as a whole wouldcompensate the public purse for any increase in publicfunding resulting from the higher level of tax relief. Weunderstand a forthcoming report by Oxford Economics forthe UK Film Council establishes that the proposed higher

tax credit would be cost neutral to the Government.



18


April 2010

References

14. UK Film Council’s stated objective in its recently published three yearplan for the Film Fund ‘is to operate a unified production and developmentfund Film Council which has four distinct points of entry for filmmakers, isfocused on creative excellence and supporting filmmakers (producers,directors, writers) aspiring to make quality British films and, where themarketplace is unwilling or unable, to take some or all of the associated risk’15. However, the figures cited above in 4.3.1 for the Nations and Regions doidentify the level of funding made available to film from those funds.16. This includes the Wales Creative IP Fund.

17. For broadcasters contextualise the £20m available with overall televisionspend.

A2.1Key public financiers and financial supportmeasures 2007–8

The key public financiers of film production within the UKare as follows:

G UK Film Council, who manage UK Lottery distribution forfilm. As of April 2010 UK Film Council offers one singleproduction fund, the Film Fund, whose annual value is£15m. In a break from the past recoupment returning toUK Film Council will be recycled into this fund.14

G The National and Regional Screen Agencies provide avariety of funds accessible to film production. Nationaland Regional Screen Agencies are funded by both by UKFilm Council and Regional Development Agencies. Thelarger production funds available to film such as theScreen Yorkshire Production Fund, East Midlands Media

Investment Fund or the Screen East Content InvestmentFund are funded via RDAs and funds are often Europeanin origin e.g. ERDF. 15 Such European-based funds arediminishing throughout the UK

G The funds made available within specialised units of thepublic service broadcasters, namely BBC Films and Film 4.

All of these sources of finance are made available on adiscretionary basis. In the UK in 2007–8 we have estimatedthat some £58.9m was available to independent productionon a discretionary basis. A general breakdown of this figureis provided below:

G UK Film Council (£17m)G National Screen Agencies (£12.5m)16

G Regional Screen Agencies (£7.4m)G BBC Films (£12m)G Film 4 (£10m)17

In addition we estimate that approximately £40m wasaccessed by independent production from the tax credit. Intotal our estimation of £98.9m was thought to be availablefor independent film in period 2007–8.

A2.2Reduced funding environment

In line with reductions in public spending across the country,the UK film sector is looking towards a new period ofausterity within public finances. This macro trend, combinedwith a directly reduced funding environment for UK FilmCouncil as some degree of Lottery Funds are re-directedtowards London 2012, and reductions in European fundingfrom the regions, creates a reduced funding environmentfor film production. We modestly estimate this drop to be inthe region of £89.9m per annum as of 2010.

Our strategy for enabling producers does not call foradditional money to the sector but rather calls for themoney which does exist to operate more efficiently. Webelieve that enacting the mechanisms outlined in section 3will create simplification, drive down overall costs and createmanagerial efficiency and will be less demanding on the

time of public agencies.

Appendix 2Public sector financial supportmeasures for UK film



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A3.1Summary of international analysis

A3.1.1 Rationale for our analysis

In order to better understand and contextualise the positionof the producer in the UK we conducted a survey of theproduction ecology for producers in four other countries asfollows:

G FranceG GermanyG DenmarkG Australia

Both France and Germany represent mature film economiesin Europe comparable to the UK. Denmark represents asuccessful smaller European country with limited publicresources but with a strong international film brand. Australia

represents a country whose domestic brand is less well knownabroad. However, Australia also represents a country whichhas, in recent times, done much to recalibrate its fundingecology for both domestic and international production.

A3.1.2 Some issues with comparisons

It is of course difficult to compare like with like when facedwith a variety of schemes and funding situations. The Frenchsupport system, for example, relies on the generation offinances from box office, ancillary sales and levies on thebroadcasters, both public and private, across terrestrial andcable and satellite. Australia is a country which is unfetteredby state aid concerns. Germany is highly regionalisedadministratively, meaning that a high proportion of allfunding comes from the regions rather than from centraladministration.

A3.1.3 Key conclusions

Overall funding and availability of schemes

The table below summarises the overall estimation of publicfunding per capita and the availability of automatic andselective schemes.

Our survey of mechanisms and funds available show the

UK to be a strong public funder of film. However, the UKdoes not operate, as all 3 European countries considereddo, an automatic or semi-automatic support scheme whichrewards the success (actual or perceived) of a film.

Appendix 3International comparison – publicagencies and broadcaster financing

UNITED KINGDOM FRANCE GERMANY DENMARK AUSTRALIA

Number of domesticfilms produced 86 196 128 34 34

Population (millions) 61.4 65 82.2 5.5 21.9

Estimated total public ¤108.9 ¤160.6 ¤170.95 ¤20.7 ¤41.8funding for film

production (¤ million)

Funding per capita (¤) 1.77 2.47 2.08 3.76 1.91

Availability ofautomatic or semi-automatic funds which No Yes Yes Yes Noreward success?

Availability ofautomatic or semi-automatic funds which Yes Yes Yes No Yesreward spend?

Availability of selectivefunding at national Yes Yes Yes Yes Yesand regional level?

(includes broadcasters andestimation of tax credit)

(includes proportion ofbroadcasters levy directed

solely at film)

(includes broadcasters) (includes broadcasters) (not includ ingbroadcaster contributions

and tax offset)



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April 2010

Availability of automatic support

The availability of automatic support in other countries is akey element in strengthening the position of the producer.The classic example of automatic support is the main Frenchautomatic funding scheme which is based on a combination

of the degree of nationality of the film and box officetakings.18 With the French example, a producer is able to‘bank’ funds and spend them on the production in hand orin the future. Another example is the semi-automatic 60/40scheme operated in Denmark, via which the national agencyis guaranteed to provide 40% of the funding if 60% of thefunding is in place from other sources – demonstrating itscommercial potential. Conversely the guaranteed availabilityof the remaining 40% allows the Danish producer to helpgenerate interest from other sources, thereby improvingtheir ability to raise finance from the start.

Other factors impacting on Terms of Trade

In countries where the producer’s voice is stronger or whereproducers benefit from a strong trade body (such as Franceor Denmark) many other aspects of the Terms of Trade withpublic financiers have been negotiated to the benefit of theproducer.

The table below summarises our key findings in relation torecoupment practises on discretionary investments forcentral national agency schemes as well as the retention ofintellectual property. The summary below indicates that theUK producer is at a distinct disadvantage to his or herinternational counterparts.

In Germany and Denmark the producer will recoup aproportion of their original investments (20% and 50%respectively) before the public agency does so. In Australiarecent regulation allows all recoupment to revert to theproducer after a period of 7 years. With both the CNC in

France and the DFI in Denmark, the agencies take no claimto intellectual property on funded films .

The cumulative impact of all these particular individualissues of the Terms of Trade is that the producer ispositioned to be stronger longer-term in other countries,and is able to move from one project to the next if projectsare successful with audiences.

These preferable Terms of Trade in other countriesdemonstrate an ‘openness’ and a degree of ‘public-service’spiritedness on behalf of the public agency. Each of thecountry’s regulations demonstrates the ethos and rationaleunderlying the public financing of film. In these and otherEuropean countries encouraging the availability of domesticproduct likely to appeal to audiences is favoured over theTerms of Trade imposed. Very often such concerns aredriven by language and cultural protectionist concerns.However, regardless of impetus the outcome is typically areasonably high share of domestic box office for nationalfilms, demonstrating that audiences are enjoying qualitylocal films.

The example of Australia, which has been very forwardthinking in its wide variety of investment forms (particularlyto encourage company growth within the production sector)and recent new recoupment terms, provides a non-Europeanexample of where overall ethos and strategy are working

towards strengthening the producer’s position.

FRANCE GERMANY DENMARK AUSTRALIA

Discretionary funds –revenue recoupmentterms

Producers have the right tooffset repayment of theirloans against investment infuture projects at a rate of25% (capped at ¤230,000).Instead of repaying the first25% of their loans,producers have the right toinvest this in their nextproject within two years

The interest free loan is‘conditionally repayable’ withFFA recoupment onlybeginning after the producerhas recouped 20% oforiginal investment.Thereafter FFA recoups at arate of 10% of revenue

The DFI recoups its fundingafter other investors(including the producer)have recouped 50% of theiroriginal investment. Thesame terms apply to fundinggiven by the regional FilmFund

Recoupment reverts toproducer 7 years afterdelivery

Intellectual propertyownership

According to the CNC’s‘investment agreement’ theproduction company isrecognised as the author ofthe film project and retainscopyright

N/A The DFI claims nointellectual property rightsto funded projects

IP Rights revert to producer7 years after delivery of film

References

18. The amount of funding that can be claimed is determined according to a100-point scale setting the degree of nationality of a film: producers who

have reached a certain number of points are granted a proportionate amountof funding for their next film.



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References

19. Please note that 2008 denotes the financial year ending April 2008 forUK and Australian figures unless otherwise stated. French, Danish and Germanfigures are for the calendar year running from January 2008 to December2008 unless otherwise stated. All Australian currency conversions are basedon exchange rate on January 25, 2010: 1 EUR = 1.56293 AUD; the DanishKroner currency conversion is based on the exchange rate on January 25,2010: 1 EUR = 7.44505 DKK; the pound sterling conversions are based on the

exchange rate on January 28, 2010: 1 EUR = 0.862621 GBP.20. Further information can be found on individual agency websites.

A3.2Details of international comparison

A3.2.1 Funding available from national and regional

public agencies and broadcasters in the UK, France,

Germany, Denmark and Australia in 2008

Below we provide full details of our country comparison.

G All currencies have been converted to Euros for ease ofcomparison.19

G It should be noted that the role of broadcasters – whetherpublic service broadcasters (PSBs) or private channels –differs from country to country. In France and Germany,PSBs and private broadcasters, including cable andsatellite channels, must contribute directly to national

film production funds. A similar system operates inDenmark, where DR and TV2 Denmark provide a pot ofproduction funding, and are obliged to supportindependent producers through distribution deals. In theUK, Film 4 and BBC Films provide production supportautonomously, a system, which is replicated in Australia byABC and SBS, which work closely with Screen Australia. 20


Number of domesticfilms produced 86 196 128 34 34

61.4 millionPopulation 65 million 82.2 million 5.5 million 21.9 million

Estimated ¤108.9million (includesbroadcasters)

Total public fundingfor film production

¤160.6 million(includes proportionof broadcasters’ levydirected solely at film)

¤170.95 million(includesbroadcasters)

¤20.7 million(includesbroadcasters)

¤41.8 million (notincluding broadcastercontributions and taxoffset)

Estimated¤23.1 million(includes Nations)

Total regional fundingavailable ¤23 million ¤72.23 million ¤940,000 ¤14.5 million

Estimated¤46.3 million

Automatic and semi-automatic fundingavailable (national andregional)

¤71.5 million ¤60 million ¤5.8 million N/A

Estimated

¤62.6 million

Selective funding

available ¤76 million

Estimated

¤22 million ¤9.6 million in 2008 N/A

¤25.5 millionBroadcastercontribution toproduction funding

¤39.8 million in 2008 N/A ¤5.3 million N/A



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A3.2.3 Principle schemes eligibility, recoupment, IP and

definition of producer in the UK, France, Germany and

Australia

Please note that funding schemes have been categorised as:

G Automatic (or semi-automatic) rewarding spendG Automatic (or semi-automatic) rewarding success, andG Selective/discretionary

Continues on page 23 ¯


Automatic schemesthat reward spend(national andregional)

HMRC 20-25%tax credit

G CDI 20% taxincentives

G TRIP 20% taxrebate for inwardproductions

G Federal 20% taxincentive (FFA DFFF)

G Hamburg schemefor employment oflocal freelancers onanimation.

G Bavarian Effect

Scheme: whereby1.5 times the offeredproduction loanmust be spent inBavaria

See 60/40 schemebelow

G Producer’s 40% taxoffset

G Location 15% taxoffset

G PDV 15% tax offset

Conditions of spend-related automaticschemes

G UK films andqualifying co-productions areeligible subject to apoint based culturaltest

G At least 25% of totalbudget must be UKqualifying spend

G Up to 25% ofqualifying budgetfor productions withbudgets up to £20million and up to20% of budget forfilms with budgetsof more than £20million pounds

G Qualifying spend isfor products andservices used andconsumed in the UK:expenditure incurredby filmmakingactivities (pre-production,production and post-production) thattake place in the UKregardless of thenationality of peopleundertaking theactivity

G CDI: 20% tax creditupon eligible Frenchexpenditureavailable to Frenchfilms and French co-productions. In thecase of co-productions, eachproduction companymust apply to theCNC separately.Projects mustprincipally involveFrench and/or EUcitizens

G TRIP: 20% tax crediton Frenchexpenditure forinward productionscapped at ¤4million; minimum5-days shoot inFrance

G FFA DFFF offers20% tax incentiveon approvedGerman expenditure,capped at ¤4 millionor 80% of totalproduction costs.Feature films above79 minutes runningtime and withbudgets over ¤1million are eligible.Minimum 25% ofproduction spendmust be German(20% for films withbudgets exceeding¤20 million)

GOnly available toHamburg-basedanimation companiesemploying Hamburgfreelancers

G Bavarian EffectScheme: 1.5 timesthe offeredproduction loanmust be spent inBavaria

N/A Subject to QAPEThreshold; AustralianContent; Completion



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April 2010



Automatic schemesthat reward success(national andregional)

None CNC Automaticsupport for featurefilms is a subsidygiven to all French

qualifying films (andco-productions),which fulfill the point-based criteria set outby the CNC. Levels offunding aredetermined by thenumber of French/EUelements (andtherefore points)accrued by the projectand by the box office,television and videosales that can beexpected by theproject. Funds can bespent on the projectin question or other

projects within twoyears of receipt offunds

G FFA AutomaticReference Scheme

G Bavaria AchievementLoans (return

payments on loansare reinvested infuture projects)

G Berlin Brandenburg‘Success Loans’

G Bavarian BankFund: Uponrecommendationfrom the BavarianFilm Fund loans ofup to ¤1 million aremade available tofilm projects whichexpect considerablecommercial success

Through the 60/40,the DFI invests 40%of a film budgetprovided a film

producer has alreadysecured 60% of thebudget and haspotential for theatricaldistribution

None

Eligibility criteria forautomatic schemesthat reward success

N/A G Levels of fundingare determined by apoint system (out of100) that evaluatescreative andtechnical aspects ofa project with aminimum qualifyingFrench/EUcomponent

G Available to Frenchproductions andqualifying co-productions intended

for commercialexploitation andtheatrical/TV release

G Language ofproduction is not alimitation

G Value of supportgiven is determinedby the value of boxoffice and broadcastpotential of theproject

G FFA AutomaticReference Scheme:Only available tofilms commerciallyreleased in Germancinemas with atleast 30 prints (15for productions withbudgets under ¤20million); applicantsmust haveregistered offices inGermany; runninglength must exceed

79 minutes (59 forchildren’s films);producer must haveinvested minimumequity of 5%

G BavariaAchievement Loans:available to Germanproducers and tocertified co-producers; informalapplication process;producer must haveinvested minimumequity of 5%

G Berlin Brandenburg‘Success Loans’ areavailable to

producers who haverecouped theirinitial investments

G Bavarian Bank Fund:Only available toprojects alreadyreceiving fundingfrom the BavarianFilm Fund

The 60/40 Scheme:targeted at films thatcould potentially sellat least 175,000cinema tickets

N/A



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April 2010



Discretionary funds(national andregional)

G Film Fund (UK)G Three National

Screen AgencyProduction Funds

G

Ten Regional ScreenAgency ProductionFunds

G Support forFranco-Germanco-productions

G Support for

Franco-Canadianco-productionsG Support for feature

film musical scoresG Support for foreign

language filmsG Support for new

technologies inproduction

G Support for inwardproductions

G Avance sur Recettes(before and afterproduction)

G Fonds Sud forproductions withcertain Asian,Middle-Eastern,

African and LatinAmerican countriesG 11 regional

production funds

G FFA Selective Fundsare conditionallyrepayable loans ofup to ¤250,000 (or

exceptionally ¤1million): The producermust invest at least15% of the budget

G FilmstiftungNordrhein-Westfalen– Production loans ofup to 50% (70% forlow budget projects)

G Berlin BrandenburgMedienbordproduction loans

G NordmediaProduction Grants,up to 50% ofbudgets (exceptionalcases 80%)

G Mitteldeutsche

MedienforderungProduction FundingG Hessen Film Fund

(HFF) combines theLande Film Fund andthe Rundfunk FilmFund which offerproduction funds ofup to ¤75,000 perproject to projectswith strong territoriallinks with Hessen

G Forderung Hamburg-Schleswig-Holstein(FFHSH): filmproduction fundingof up to 50% of afilm’s production

budget (up to 80%for films withbudgets under¤800,000)

G ConsultancyScheme

G New Danish ScreenG Film FynG

West Denmark FilmPot

G Screen AustraliaFeature FilmProductionInvestment

G

Of 8 state screenagencies, onlyScreen West offersfeature filmproduction funding

Criteria ofdiscretionary funds(national andregional)

Varies from fund tofund; Premiere Fundfocusing on potentialcommercial and boxoffice success; NewCinema Fund uponinnovation anddiversity

In order to beconsidered forselective funding, filmprojects must accrueFrench/EU points forcreative and technicalcriteria as per theautomatic schemesadministered by theCNC

‘Avance sur Recettes’is available to French

and EU filmmakers.Funds are generallyawarded at scriptstage, but can also beawarded aftercompletion of the film.To be selected, a filmshould have securedtheatrical distribution.Generally, the schemetargets first featuresand ‘less commercial’projects which mightnot be made withoutstate support

G FFA selectivefunding loans aredisbursed forprojects based onthe understandingthat the project will‘improve the qualityand profitability ofGerman Cinema’

G Regional fundingschemequalifications strikea balance between

commercial, artisticand territorialcriteria with thegreatest emphasisgenerally placedupon the latterconsiderations

G ConsultancyScheme: targetsestablishedfilmmakers balancingcommercialand artisticconsiderations in itsfunding decisions

G New Danish ScreenScheme: targetscutting edge work,less commercialconsideration

G FilmFyn ProductionFund: investmentsmade with the aimof recoupment inmind

G Creative teamG ScriptG Creative potentialG Audience potentialG Commercial

potentialG Project viability



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April 2010



Discretionary funds –revenue recoupmentterms

UK Film Councilrecoups at same rateas equity investors;Producer receives 5%

of money recouped byUK Film Council fromfirst dollar (this doesnot apply when thetax credit has beentreated as producer’sequity)

Producers have theright to offsetrepayment of theirloans against

investment in futureprojects at a rate of25% (capped at¤230,000). Instead ofrepaying the first 25%of their loans,producers have theright to invest this intheir next projectwithin two years

The interest free loanis ‘conditionallyrepayable’ with FFArecoupment only

beginning after theproducer hasrecouped 20% oforiginal investment.Thereafter FFArecoups at a rate of10% of revenues

The DFI recoups itsfunding after otherinvestors (includingthe producer) have

recouped 50% oftheir originalinvestment. The sameterms apply tofunding given by theregional Film Funds

Recoupment revertsto producer 7 yearsafter delivery

Intellectual propertyownership

G UK Film Counciltakes a share ofcopyright ownership‘commensurate withits investment inrelation to otherequity investors’

G Rights can revert toproducer once UKFilm Council’soriginal investmenthas been recouped,however there is noconsistent policy inplace to govern this

According to theCNC’s ‘investmentagreement’ theproduction companyis recognised as theauthor of the filmproject and retains

copyright

N/A The DFI claims nointellectual propertyRights to fundedprojects

Intellectual propertyrights revert toproducer 7 years afterdelivery of film

Definition of producer The Film ProductionCompany is defined asthe companyresponsible for theprincipal photographyand post productionof the film and for thecompletion of thefinished film. (There isno requirement forthe film rights to beowned by the FPC atthe time the film iscompleted)

The productioncompany is defined asthe company whichinitiates a project andtakes financial,technical and artisticresponsibility for itsmaking. It is also thecompany whichsecures thecompletion bond for amotion picture

Film producers aredefined as personswho are responsiblefor the production ofa film right up todelivery of the finalproduct – or shareresponsibility, as inthe case of a co-production – and areactively involved inthe production.

For the purposes ofinvestment, the DFIspecifies that theproduction company,co-producers andprivate investorsrecoup theirinvestments. The DFIspecifies that whereinvestment frombroadcasters isinvolved, they do notstand in the samerecoupment position

No particulardefinition of theproducer orproduction companyis specified in ScreenAustralia’s Terms ofTrade



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A3.3Comparing international revenue models

The following table compares returns from (modestlyperforming) identically budgeted domestic films funded

under the different systems currently operating in the UK,France and Germany. Assumptions are set out further below.

Notes:

UK funding structure: assumes investment from the UK Film

Council and BBC Films. The producer has brought in equity

investment from private sources.

France funding structure: assumes a typical French film

whereby the production company brings funding from an

automatic (non-refundable) scheme such as ‘fonds soutiens’

as well as its own equity investment, plus other support from

national and regional funds.

Germany funding structure: as with France, assumes a

typical German national film with a mix of automatic support,

own investment, national and regional support.

Typical funding structure (¤ or £ in ‘000)

Public fund discretionary equity – ‘hard’ 1,000 350 300

Public fund discretionary equity – ‘soft’ - 150 500

Broadcaster equity – ‘hard’ 500 500 500

Producer own equity – ‘hard’ n/a 500 500

Automatic public funding (recoupable, treated asproducer equity) - ‘hard’ – 400 400

Private investor equity – ‘hard’ 700 n/a n/a

Tax credit/rebate 700 600 700

Domestic television licence fee 500 900 500

Territory pre-sales (included other domestic) 600 600 600

Gap finance 1,000 1,000 1,000

Total budget 5,000 5,000 5,000

Revenue shares (¤ or £ in ‘000)

Gross revenue 3,200 3,200 3,200

Less: gap finance 1,000 1,000 1,000

Available for equity recoupment 2,200 2,200 2,200

‘Hard’ equity 2,200 1,750 1,700Available for all participants – 450 500

Available for producer (assumes 25% of ‘profits’ for

the UK production company, but 35% for France and – 158 175

Germany as these producers are also investors)

Producers ‘own’ equity investment 500 500

Profit on this investment (%) 32 35

UK France Germany



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A4.1State aid issues

A4.1.1 State aid and film

Legal basis for the public support of film production in

Europe

Throughout Europe, and the wider world, governments makeavailable funds for film production support. The wideavailability of incentives throughout the world is witness tothe desire of governments for film activity to take place, ofthe ambition to attract international productions and of theneed to help support the creation of domestic product.

Within Europe it is primarily on the basis of the CulturalDerogation (EC Treaty, Article 87(3)(d)) that state subsidy iscleared for use.21 Subsidy is made available in order toaddress recognised market failure within the sector. Throughthe Cultural Derogation and the principle of the MemberState’s right to self-determination, in cultural matters, each

country is allowed to provide public finance to film. Currentregulation around the interpretation of the CulturalDerogation for film will allow up to 50% of the budget tobe provided from public sources. This is with the exceptionof difficult and low budget films, in which up to 80% of thebudget can be publicly financed.

State aid definitions

There exists particular regulation governing theinterpretation of the cultural derogation for film production.22

State aid is defined as an aid measure granted throughstate resources favouring the production of a certain good

which may possess the potential to impact trade betweenMember States or to distort competition.23

Not all state aid is illegal. Where state aid is in line withestablished regulation guidelines, which indicate that thisconfiguration of state aid is not contrary to the commoninterest of the European market, state aid is permissible andschemes can operate under the terms of those guidelineswhen notified and cleared by the EC.

Cinema aid guidelines

Current state aid guidelines for film production state that forprojects which are not difficult and are low budget, up to50% of the budget can be provided for by public resources.In essence if the state aid is compatible with regulation then

this ‘50%’ can be written off for state aid purposes.This guidance for film production is given at a macro-level

in terms of the way schemes operate. The EuropeanCommission’s chosen way to examine the state aid issuesbehind schemes is to examine the mechanisms of thescheme in terms of existing top level criteria surroundingthe cultural nature of the product, aid intensity,territorialisation issues and general legality criteria.24

Thereafter productions benefiting from cleared schemeswill be in accordance with state legislation.

Appendix 4Regulatory issues

References

21. The Cultural Derogation is not the only legal mechanism available for theclearance of aid. The Risk Capital Guidelines have allowed for the clearanceof significant schemes in the UK, such as the East Midlands Media Investments

and Screen East Content Investment Fund.22. ‘Communication from the Commission to the Council, the EuropeanParliament, the Economic and Social Committee and the Committee of theRegions on Certain Legal Aspects Relating to Cinematographic and OtherAudiovisual Works’. COM (2001) 534 Final.23. In the Commission’s definition of state aid, there are four key elements,which can be seen as tests for determining whether or not a measure is stateaid. All four of the tests must be answered in the affirmative for the measureto be State aid:

• Is the aid measure granted by the state or through state resources?• Does the aid measure favour certain undertakings or the production of

certain goods (as opposed to general measures which affect all sectors)?• Will the aid measure affect trade between Member States?• Does the aid distort or have the potential to distort competition?

The Commission is typically very rigorous in determining the answer to thefinal two questions; therefore in practice, if a scheme meets the first twotests, it is likely to meet all four. State aid can be in the form of a grant or loan,

but various measures, such as interest relief, tax exemptions, consultancyadvice or the provision of goods and services on preferential terms, can alsobe viewed as state aid. Aid given to individuals or charities/not-for-profitcompanies can also qualify as state aid if there is competition (i.e. privatecompanies) in the field.

24. In order to be cleared under the Cinema Guidelines, aid must abide by EC‘general legality’ principles, so aid cannot:

• be reserved exclusively for nationals of one Member State;• require EU beneficiaries to have the status of a national company; or• require EU companies’ workers to comply with national labour standards.

The Cinema Guidelines have four key criteria with regards to film support:

• Aid must be directed to a cultural product;• The producer must be free to spend at least 20% of budget in other

States (the Territoriality principle);• Aid intensity is limited to 50%, though it may be higher for ‘difficult and

low budget’ films (the definition of this category is up to the Member

State); and• Aid must not support specific filmmaking activities (e.g. post-production).



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A4.1.2 State aid and Terms of Trade

Within those schemes cleared for top-level state aid issuesthere has been little or no questioning of Terms of Tradebetween the public financier and the production company.

The case of the French automatic aid scheme,25 which was

notified with the Commission in 2004 and cleared in 2006,gives a clear example of a permissible scheme which allowsfor the production business itself to enjoy very favourableTerms of Trade with public financiers without any State aidconcerns.

Recoupment terms of UK Film Council are more commercialthan other European national agency counterparts. UK FilmCouncil’s recoupment terms demonstrate the public sector’sability to operate commercially. However, we believe theseterms are counterproductive to the UK in the longer term.Moreover we do not believe that these recoupment terms arerequired by current state aid guidelines for film production.

The particular area of where aid to a production (set up asa SPV) combines with generic aid to a business (mustcomply with de minimis funding rules) is a very grey areaand one which has not been examined in any great depthand not one that has been called into question throughoutEurope. That is not to discount, however, that in the futurethe Commission will become more interested in either thisparticular area or company development for SMEs in thefilm sector more generally. However, again the case of theFrench automatic scheme provides an example of a notifiedscheme which allows production businesses to ‘bank’ fundsfor future use and which overall grows the balance sheets ofproduction companies.

A4.1.3 State aid conclusions

It is also worth pointing out that currently the mainbeneficiaries of a state subsidised product are those whoexploit the product, i.e. the distributor and exhibitor. Due tolack of vertical integration in the independent sector, thecommercial advantage of publicly funded product is passeddownstream to those who exploit it rather than those whocreate it. This is a fact that has never really been questionedto date. Yet the producer, as the business entrepreneur of afilm project who is tasked with managing the financial riskis often, incorrectly, perceived as the chief beneficiary of

production funding.To date, the actual Terms of Trade/recoupment termsbetween public support bodies or public servicebroadcasters and producers has not been the subject ofmuch, if any, European Commission scrutiny Commercialadvantages accrued by companies across Europe withregards to automatic funding have posed no significantproblems to date.

Our suggested levers to be enacted by public policy will insome cases require a change of legislation. Some aspects ofnew legislation may well need to be negotiated with theCommission. In the current context of state aid interpretationfor film and in comparison to precedent within Europe, we donot believe any state aid issues to be insurmountable.

A4.2Lottery issues

In 2008–9, £1.38 billion was paid to the Department forCulture, Media & Sport from the Lottery for distribution to

good causes.26 These funds are currently distributed acrossthe arts, sports and communities through 13 independentdistribution bodies.27 Those funds are distributed across thefollowing recognised good cause areas:

G ArtsG Charitable ExpenditureG Health, Education and the EnvironmentG HeritageG MillenniumG Sports

The film/screen industries are the only specific industriesto have dedicated distributors in the form of UK Film Counciland Scottish Screen. It is interesting to note that within thislist of distributors, film/screen industries are the only sectorswhere the public sector requires of itself to operate oncommercial terms. In general, within the wider culturalsector funding is given more directly as direct grants andsubsidy.

References

25. Automatic support for feature-film producers is based on box officetakings, TV screenings of films and video sales. The basis for the calculationof the sums that can be taken into account for exhibition is relatively complex.

Roughly, a producer can expect 13 or 14% of the gross box office receipts.There is no minimum number of admissions required. The amount of fundingthat can be claimed is determined according to a 100-point scale setting thedegree of nationality of a film: producers who have reached a certain numberof points are granted a proportionate amount of funding for their next film.See ‘Aide d’État NN 84/2004 et N 95/2004 – France Régimes d’aide aucinéma et à l’audiovisuel’ for official clearance notification.26. National Lottery Commission, Annual Report 2008-9, Page 927. The DCMS has responsibility within Government for National Lotterypolicy, and sets the policy and financial framework within which thedistributing bodies for National Lottery grants operate. The 13 bodies are asfollows: Arts Council England, Arts Council Wales, Arts Council NorthernIreland, Big Lottery Fund, Community Fund, Heritage Lottery Fund, MilleniumCommission, New Opportunities Fund and Scottish Arts Council, ScottishScreen, Sport England, Sport Scotland, Sport Council for Northern Ireland,Sport Council for Wales, UK Film Council, UK Sport. Following theannouncement that the 2012 Olympic and Paralympic Games will be hosted

by London, an additional distribution body has been established – the OlympicLottery Distributor.




April 2010

Appendix 5 About Pact

Pact is the trade association that represents producers inindependent television, feature film and digital media. Ourmembership creates, exports and invests in UK content, andgenerates annual revenues of £2.1 billion.

3rd FloorFitzrovia House153–157 Cleveland StreetLondon W1T 6QW

020 7380 8230www.pact.co.uk

Documents

SPI Report for PACT April 2010