How Do Your Capital Sources Determine Your Business Model? v1
Looking through the lens of film and venture capital
Recently, I was in conversation with a filmmaker who was considering a potential capital provider. Though unfamiliar with the organization, I did some quick research. What followed was an exploration of why this capital entity might be interested in her project and the potential constraints working with them could imply. I thought the capital provider was looking for a lower than venture capital return (i.e. lower than a 3-5x net return on cash deployed across the portfolio and/or 10x increase in value of an individual company), and I was right. The capital provider seemed to seek returns lower than those typical of venture capital, due to a unique business model that involved charging investees for platform services. In other words they are a for profit company that are investors in other companies while at the same time charging those same companies for services. This experience made me think there is a science to breaking down what a capital provider expects based on their business model and yours.
In both indie filmmaking and early stage technology investing, I have seen how capital providers can change how a founder runs their business. For clarification, when I say ‘founder(s)’, I am referring to both tech founders and filmmakers as I believe the title suits both, but I will distinguish between them, when relevant, in this article. In both venture capital and film financing you deal with challenges of speculation and validation stamping. The former helpfully brings more investor choice to the table for the founder(s), but has also been painful for investors when they bet incorrectly. This is because without proper discernment and strategic luck around timing, speculating on a deal can cost the investor a sizable amount. The latter sometimes incorrectly signals the prestige or experience of a team and loosens due diligence. This bystander approach to verifying the key elements of a film or startup has also led to poor financial investor experiences. Both of these asset classes require some hands-on learning, luck and discernment when assessing the risks of different prospective investments, with film being an even riskier asset than startups due to their low historical average of returning capital (45% of the time capital is returned to producers for ex.). The relative similarities between these industries are, in part, why I am tying them together to make the argument that regardless of asset class the business model of your capital provider will determine your own as a founder.
Before I get into the ‘quick science’ of predicting what constraints you may run up against depending on who you obtain capital from, I will go over the business model of indie film financing as well as early stage investing*.
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In indie film financing I find that people go one of a few routes to successfully raise enough funds to produce their film (more in the comments***):
Crowdfunding - there is an art to engaging your community to help you pay for pre-production (i.e. all the preparation before the movie shooting starts), production (i.e. the movie shooting part), and if you raise enough, post production (i.e. the final aspects of completing the film which could include tweaking the coloring of the film, editing the film, ensuring the audio lines up with all visuals and starting to execute a marketing strategy to build up anticipation and get into film festivals or on distribution platforms)
A sub heading of crowdfunding is to do so not with a platform (i.e. Kickstarter or Seed & Spark), but with strategic outreach to high net worth individuals (HNWIs). A lot of times if you partner with the right producer, or indie production studio, they may already have some connections to people who would be interested in your film and can reach out directly to them.
Pre-sales - this is a lot less common today, but in previous decades, if you had the right connections you could get upfront cash to create your film by selling the rights of your film in specific foreign film markets. Pitting potential buyers in competition with each other, like in many negotiations, increased the price of your film and provided you with more money for pre production, production and sometimes even post. Typically the filmmaker(s) would keep the rights to their film in their home market (i.e. the market they know and are targeting), as it provides them with the opportunity to socialize their film with local audiences, and make additional money, which can lead to a profit for the film via royalties over time or a substantial upfront deal that covers all existing costs.
Distributor sales - this is when a filmmaker makes a deal with a distributor platform (i.e. an organization that can show the movie to a mass audience like a streaming platform or a theatre chain) before the movie has been filmed. This typically does not happen with emerging filmmakers, but is quite common for people like Martin Scorsese who could have a first look deal.
After a movie is filmed and any last minute money is raised for final touches in post production (the last stage of movie production), the movie tries to get to the masses by:
Going directly to a distributor, which could be a tech business that shows movies (like Amazon and its affiliates) or a theatre chain (like AMC)
Going to a broker or sales agent who has a relationship with a distributor
Going the film festival route, which typically leads you to one of the already mentioned options
Self distributing
The thing to note about all four of these options is that each of them comes with a different set of return expectations for your film. If you decide to self distribute your work, your film will have little to no business model constraints. The filmmaker may continue to retain IP ownership and be able to make more advantageous distribution deals to specific international markets, but you may never get the kind of money associated with a high box office theatrical release. If you distribute your work with a technology company, especially if venture capital backed or a publicly listed company on an open financial exchange, know that they have a set of expectations on revenue and growth targets for their company. Think through what those expectations may be for them and how your film’s ambitions fit into those goals.
For example, Amazon, a company that typically sits in between the film and tech industry with its affiliate Amazon MGM Studios, has invested billions, including $1b/year in theatrical releases since 2022, into movies and even brought in Ted Hope, an indie producer to run the studio from 2015 - 2020. Still the public company has revenue targets that they aim to meet. If Amazon primarily (outside of AWS) makes money via selling products in their marketplace how does your film play a part in their revenue growth? Product placement in your movie? Customer acquisition increases because users come for films and later get upsold products while on their platform? Thinking through these questions will allow you to be very observant of your capital options when they are available to you, as well as give you an understanding of the difference between what a capital provider may promise v.s. will do.
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In technology-based venture capital, the main model is well known.
Fundraising can start as early as at the idea stage with pre-seed financing and can go up until pre-IPO or right before a public market sale, or even a private market acquisition of the company. The business model of venture is to oblige the fiduciary duty investors have to their limited partners (L.P.s) who have invested in the fund (i.e. a one off vehicle of capital) or a firm ( i.e. a grouping of funds). The investors in the fund have a contractual obligation to return the money provided to them by those limited partners with an additional outsized return (good is considered 3-5x net) over a pre-set timeframe like 7-10 or 3-5 years**. The time pressure to provide a return typically lessens over time if the General Partner(s) at a fund have successfully provided a return to their L.P.s in previous funds. Understanding the capital constraints of your capital provider may lead a founder in film or startups to figure out where a fund is in their fund timeline, as well as what fund number they are investing out of. This is information that can sometimes be found online on websites like Pitchbook or Crunchbase. Knowing this information can help you ask questions regarding the capital providers expectations of a return upfront, and this information can inform the founder’s growth expectations.
Do your research before even taking a call with a capital provider. It may save you both some time if you know you want to run a slower business than what venture capital financing typically asks of founders, or if you know that you want a committed distributor who will show your movie theatrically. Investing in films and startups are inherently risky endeavours with challenge overlaps around valuation speculation and low investment to return ratios. This is why all founders should do their own research before accepting capital from any party. It may save you a headache later on if you understand early what capital option(s) work best given your desired growth.
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Comments
*The models I went into detail about above are what I see as the mean models, or the most standard models in each industry, but I agree that there are many more models, especially in film that include fun things like completion bonds and state/federal tax credits.
** In the last 5 years the time frame for funds has diminished with funds using up their cash in 18 months or less. The exact timeline is usually written out in the shareholder agreement between the anchor limited partner (i.e. the limited partner with a large shareholding who typically writes the documents all other L.P.s follow when investing in the fund) and the fund they invest in.
*** Source: “The Cost of Outside Equity Control”