The Low Down on Gap Financing: How Does it Work, and is it for You?

Gap financing: You may have heard the term before. But what does it mean—and, more importantly, can it help you get your film funded? Well—maybe. This primer explains why.

Once a producer acquires a property, or the rights to a screenplay, the next step involves attaching talent to it, be it actors, other producers, or a name director. This entails entering discussions with international agents in order to ascertain if their available talent will help sell the film in foreign territories. The producer then goes after presales contracts: the sales of the rights of a film in return for the agreed upon amount of payment, after the delivery of the completed film. Gap financing is a single film loan in an amount over existing presales guarantees. So if you have a one million-dollar film and you have $800,000 in presales, you would need to gap finance the full amount with a loan of $200,000.

Scott Freije, Manager of Sales and Acquisitions at international sales representation firm Artist View Entertainment, contends that gap financing plays a small but important role in getting a film made. “We see [gap finances] as finishing funds,” he says, and recommends that a producer “work within the parameters of a known genre for which there is a demand.”

David Sheldon is the CEO of Film Financial Services, which co-finances films for studios and independent producers whose budgets typically range between $10 million and $50 million. Film Financial Services assembles funds for a project based on a model Sheldon refers to as “structured finance,” which “contains various components of finance for a transaction, and each one of the components has a different risk-reward profile.” These elements are:

  1. Presales guarantees: A bank takes very little risk and its reward is limited to its interest and fees.
  2. Gap finance: A bank takes very little risk and its reward is limited to its interest and fees.
  3. Equity: An investor puts verifiable cash into a verifiable bank account that can used to fund the motion picture. Cash equity is cold hard cash—not letter of intent or promised notes to pay after first money is received.
  4. Service deferrals: Deferred salaries for talent and deferred fees for costs.
  5. Subsidies or tax credits: Offered as a rebate when production is completed or as a partial write-off on taxes. It varies from state to state and country to country.
  6. Product placement or cross-promotional contributions: Companies pay the producer to place their product or service logo in the film.

About the process of acquiring gap financing, Sheldon says, “The international sales company does estimates by country and the gap lenders will typically lend only for major international territories [such as Germany, France and Japan], not the small ones [like Vietnam]. The banks insist that their loan is covered by 150 percent and there is no profit participation. It is a straight loan and the gap loan is the last financial component that comes into play.”

What range of films is most suited to the possibility of gap financing? Philippe Diaz, CEO of social issue film distributor Cinema Libre Studio, maintains that certain basic requirements must be met before you can even approach a bank about gap financing. “Your film has to be budgeted at more than two million dollars, and it must have name actors attached who will sell overseas,” he says. “You must have presales that can be verified as legitimate buyers, and have 70 to 80 percent of your budget covered before asking for gap financing. You also must have a completion bond, which means a bond company will make sure the film will be completed and be ready for a distributor if, for some reason, the producer or director cannot finish the film on schedule. This adds another three to six percent onto your budget.”

Why such specific demands? “With the great recession and the explosion of new product for growing networks, the good days of financing are over,” says Diaz. “In the last 10 years, we’ve seen the death of the presales market for everything but the top movies. Only the big films can obtain presales guarantees and that is because they can attach the top talent – the best known actors and directors. You can make more money by licensing your film to a foreign territory after the film is completed and ready for exhibition and distribution.” Presales guarantees in the U.S. marketplace, Diaz says, are “much harder to obtain. All of North America is just one territory and bankers will not count on the U.S. market. Too much can happen, because you just never know how a completed film is going to turn out.”

Sheldon concurs with Diaz. “The U.S. values are more difficult to attain,” he said. “You have to take into consideration how the film will be released, how much the P&A [“Prints and Advertising,” or distribution cost] is, and what are the terms of the P&A recoupment and if it will leave anything for the producer. Who would the domestic distributor be? What are their arrangements for distribution in the theaters, television, PPV, VOD, and internet streaming? P&A recoups ahead of the banks and it is not assured what the given cost will be.”

Los Angeles-based Comerica is a bank that provides gap financing to producers. Jeff Colvin, Senior Vice President and Group Manager of Comerica, says he looks for films that are produced for $10 million or above. Of these, up to 20 percent of the budget can be gap financed. Why does he specifically target films in the $10-15 million range? Gap financing a low-budget film can be cost-ineffective, because the legal and bank fees are the same no matter the size of the project. “We will do a loan against the presale contracts, the tax credits, rebates and foreign incentives. We do our own analysis to make sure our risks are kept to a minimum, but gap financing is not risk-free,” Colvin says. “If the film turns out poorly, buyers will not want to license the rights. Sometimes, even when the producer has a presales guarantee, the buyer will default, and we will have to enter into arbitration. We will then resell those rights in the same territories but to different companies.”

Colvin also recommends finding a good international sales agent before approaching a bank about gap financing. “The bank wants a good sales agent. The earlier you have a foreign sales agent attached to your film the better. They will help the producer find out what the best cast would be and help secure presales guarantees.”

What can you do if a bank is unsure about the distributor offering the presales guarantee? Colvin’s advice: “The distributor can put up a letter of credit from their bank which is their bank’s guarantee that our bank would get paid. We would then be taking an acceptable bank risk. Loan pricing against letters of credit would be cheaper because the risk we would be taking would not be on foreign distributors, but on another big bank.”

To increase your odds of securing a loan, banks want to know how foreign distributors feel about the film and the cast. “They will call foreign buyers,” Diaz says. “They will ask them how much will they pay for this particular film with this particular cast, before they make a decision on doing business with a particular producer.

So what do the numbers actually look like? Colvin takes us through the process. “First you have to check the LIBOR rate (London Interbanking Offer Rate) and see what the spread rate is. The bank will charge interest and fees on the loan. For a $10 million film, you would be looking at a bench rate of about 0.25 percent. The loan would be at the interest rate of LIBOR plus one to two percent. There would be a two percent fee and about $75,000 in legal costs. On a $10 million dollar film you would be looking at around $775,000 in interest and fees.” This means the producer would have to get the film done for $9,225,000.

Despite the fact that “some banks have gotten out of the gap financing business altogether” as “the Feds put requirements on the banks to retain more assets and collateral,” Sheldon remains cautiously optimistic about the future of financing. “Business is slowly picking up again. But you need to work with big stars in action dramas if you want to be successful in this business.”

Founder Brenda Doby-Flewellyn and co-founder Harold Lewis of FilmBankers International have created a new website, Pitch2Me.com, and are currently enrolling bankers, distributors, and investors to help aspiring producers finance their films. The process is simple: For a nominal fee, producers can upload the essential elements of their project. Financial professionals and distributors can then zero in on the type of project the distributor or investor is interested in financing.

For many producers, though, gap loans remain just one potential ladder of many in the financing game. Producer Howard Burd, who just finished shooting the John Travolta-starring Criminal Activity in Cleveland, Ohio, has never used gap financing. “I go out and I make calls on equity investors and can raise capital by monetizing the rebate that I work out with the states I film in, for shooting my film in their state. I shot my last film, Four Minute Mile, starring Kim Basinger and Richard Jenkins in Washington State, and received a 30 percent rebate after production. You can save a lot of money by doing that and getting loans from equity investors on the rebates.”

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Case Study: Heavenly Sword

David Sheldon is a producer on the 2014 action-adventure fantasy feature film, Heavenly Sword, which is based on the critically acclaimed PlayStation game of the same name. He and his company, Film Financial Services (FFS), were selected by Blockade Entertainment and PlayStation to finance the animated movie. IMDb lists the budget at $6 million.

It tells the story of the heroine Nariko (voiced by Anna Torv), who takes up the Heavenly Sword against an evil king (voiced by Alfred Molina). Thomas Jane provides the voice of Loki. The story replicates the video game as the deadly King Bohan tries his best to wrest the Heavenly Sword from Nariko. (Torv also provided the voice of Nariko in the 2007 video game.)

FFS committed to fund 100 percent of the budget. They engineered and assembled the various components of finance including appointing the animation studio, TriCoast Worldwide, and the U.S. sales company, Cinedigm. The film was produced by Brad Foxhoven’s Blockade Entertainment and AZ Works. Equity was provided by FFS plus equity funds it structures with various Asian Partners.

The Heavenly Sword finance structure was:

  • 5 percent sales agent minimum guarantee
  • 24 percent equity
  • 24 percent studio services in Asia as equity
  • 24 percent studio services in the U.S. as equity
  • 23 percent tax credit and subsidy

The success of Heavenly Sword has led to PlayStation licensing more and larger budget PlayStation franchises for feature films for Blockade to produce and FFS to finance. These include the animated film Ratchet & Clark currently in production with Blockade in Los Angeles, Original Force in China and Rainmaker Entertainment in Vancouver. Rainmaker and FFS’s main partner in China, JiangSu Broadcasting Corporation, are also producing the new animated action adventure feature Sly Cooper. MM

Top image courtesy of Craig Foster / Dreamstime.

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