Legal Q & A for December 2004

This article is used by permission of Mark Litwak, Esq. and is taken from www.marklitwak.com.

PROTECTING FILM INVESTORS

Part II

BY MARK LITWAK, ATTORNEY AT LAW

In my last column, I explained how to protect film investors through due diligence and by evaluating the market for a motion picture. Here is the remainder of my checklist for protecting investors:

UNDERSTAND THE PARAMETERS OF A FAIR DEAL: Usually, investors are entitled to recoup all of their investment from first revenues before payment of deferments or profits. Many times investors are allowed to recoup 110% or more of their investment in order to compensate them for loss of interest and inflation. Profits are declared after payment of debts, investor recoupment and payment of deferments. Profits are generally split 50/50 between the producer(s) and the investors. Thus, investors who provide 100% of the financing are entitled to 50% of the profits. From the producer's half of net profits are paid any third-party profit participants (e.g., the writer, director and stars).

OBTAIN ALL PROMISES IN WRITING. Don’t ever accept oral assurances from a producer or distributor. If there is not enough time to draft a long-form contract, ask for a letter reiterating the promises. Avoid filmmakers who make handshake deals. Such individuals may neglect to obtain the necessary contracts needed to fully secure ownership to their motion picture. In order to have a complete chain of title to a film, one needs to secure written contracts with many parties including actors, writers and music rights owners. Filmmakers who fail to pay attention to such legal niceties lack the professionalism needed to succeed.

SECURE AN ARBITRATION CLAUSE: Provide that any contractual disputes be subject to binding arbitration, rather than litigation, with the prevailing party entitled to reimbursement of legal fees and costs. Arbitration is usually a quicker, more informal, and less expensive method of resolving disputes than litigation. The filmmaker is usually financially weaker than a distributor. If the filmmaker doesn’t have a viable means of protecting his interests, he may be forced to watch from the sidelines as a distributor ignores the terms of a distribution agreement and pockets revenue from the film. An arbitration clause levels the playing field.

Binding arbitration awards are difficult to overturn. The grounds for vacating an award are limited to such instances as when an award is procured by corruption or fraud, or if the arbitrator lacked jurisdiction. A party cannot reverse an arbitration award simply because he does not like the decision.

Many entertainment industry arbitrations are conducted under the auspices of the Independent Film and Television Alliance (IFTA, formerly called AFMA), a trade organization representing the interests of international distributors. IFTA is the entity which organizes the American Film Market (AFM). IFTA arbitrations usually occur in Los Angeles, but they can be held during an international film market or in a different city. All of the IFTA arbitrators are experienced entertainment attorneys. Under IFTA rules, if a filmmaker wins an award, and the distributor refuses to comply with its terms, the filmmaker can have that distributor barred from participation in future AFM's.

INTEREST ON LATE PAYMENTS: Generally, courts do not award pre-judgment interest to a prevailing party, unless there is a provision in the contract providing for such interest. Thus, if you become embroiled in a dispute with a distributor who is unlawfully holding onto $100,000 owed you, and after four years of litigation you win the case, the court may only award you $100,000 in damages without interest. During those four years the distributor could invest your money and reap the profits.

COMPLETION BOND: A completion bond is issued by a completion guarantor, which is an insurance company that insures the production against budget overruns. Before issuing the policy, the completion bond company will closely review the production personnel, script and budget and assess whether they think this team of individuals can bring in this script within the shooting schedule and budget proposed. The completion bond company usually is quite diligent in its review because if the film goes over budget, the bond company is financially responsible.

TAKE AN ACTIVE ROLE: In the past, investors who wanted limited liability had to be willing to pay the price of accepting limited control. With a limited liability company (LLC), however, an investor can be one of the managers of the enterprise yet maintain limited liability. Thus, the investor can have a vote on critical decisions such as approval of the script, cast, budget, and distribution agreements. By being actively involved in the production, an investor will be better able to monitor the performance of the filmmaker and discover problems while there is time to remedy them.

MAKE SURE FUNDS ARE SPENT ON PRODUCTION: During fundraising, it is common for the filmmaker to set up an escrow account to hold investor funds. The money stay in the escrow account until the filmmaker raises the minimum necessary to produce the film. If the filmmaker cannot raise sufficient money, the funds in escrow are returned to the investors. By depositing money in an escrow account, investors are protected because they know none of their capital will be spent unless and until all the money needed to produce the film has been raised.

After funds are disbursed for production, there should be a system of checks and balances to ensure that all monies are properly spent and accounted for. A budget and cash flow schedule should be approved beforehand. All checks withdrawing funds from the account should be signed by two individuals. Investors may want to insist that one of the signatories is a trusted person selected by the investors.

OBTAIN AN EXPERIENCED ADVISOR: Retain an entertainment attorney or experienced produ­cer’s rep to advise you and review all documents. Make sure the filmmaker has adequate representation as well. Filmmakers may be very capable in the arena of production, and yet be unsophisticated in business matters. Filmmakers can be badly taken advantage of if they attempt to negotiate a distribution deal without assistance. Since the investor generally shares in the revenue paid to the filmmaker, if the filmmaker gets taken, the investor suffers as well.

OBTAIN AND RECORD SECURITY INTERESTS: A security interest gives the secured party rights in designated collateral. Investors may want to make sure the filmmakers they back protect their rights by having distributors grant the filmmaker a security interest. The collateral here is the proceeds derived from exploitation of the film. By having a security interest, the filmmaker will have superior rights to unsecured creditors. If a distributor goes bankrupt, its assets will be auctioned off to pay the distributor's creditors.

DON'T INVEST MORE THAN YOU CAN AFFORD TO LOSE: Investing in a film is a highly risky endeavor. Investors should never invest more than they can afford to lose, in other words, the complete loss of your investment should not appreciably affect your standard of living.

Mark Litwak is a veteran entertainment attorney and producer’s rep based in Beverly Hills, California. He is the author of six books, including the recently published Risky Business, Financing and Distributing Independent Film (Silman-James, 2004). He is the author of the CD-ROM program Movie Magic Contracts, and the creator of the Entertainment Law Resources Web site: marklitwak.com He can be reached at law@marklitwak.com.

—Mark Litwak (www.marklitwak.com).

Mark Litwak is a veteran entertainment attorney and producer’s rep based in Beverly Hills, California. He is the author of six books, including the recently published Risky Business, Financing and Distributing Independent Film (Silman-James, 2004). He is the author of the CD-ROM program Movie Magic Contracts, and the creator of the Entertainment Law Resources Web site: marklitwak.com. He can be reached at law@marklitwak.com.

Disclaimer-Any material sent to or provided by Mark Litwak is for illustrative and educational purposes only and should not be relied upon as legal advice, or be considered confidential or the basis of an attorney client relationship.  This material may not be suitable for your particular situation and different legal advice may be appropriate depending on your jurisdiction or circumstances. Therefore, you should not rely on this material, or any part of it, without the advice of competent legal counsel.