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Unformatted text preview: Cofinancing to Manage Risk in the Motion Picture Industry † Ronald L. Goettler Phillip Leslie Tepper School of Business Graduate School of Business Carnegie Mellon University Stanford University [email protected] [email protected] Abstract Cofinancing is a term used in the movie industry to describe films for which multiple firms share the cost of production and revenues. We find that one-third of movies produced by major studios between 1987 and 2000 are cofinanced. Anecdotal evidence strongly indicates that cofinancing is for the purpose of risk management. However, the major studios are publicly traded firms, which allows investors to make their own diversification decisions, leading us to question the importance of cofinancing for risk management. Contrary to industry-claims, we find that cofinancing decisions are unrelated to the distribution of individual movie returns—studios do not appear to cofinance relatively risky films. But we do find that studios are more likely to cofinance movies that account for a large fraction of their total annual production budget, which reduces portfolio risk via the law of large numbers. Toward an alternative explanation for cofinancing, we also find that cofinancing between two major studios impacts the release dates of their other movies. This version: July, 2004 † We thank Lanier Benkard, Liran Einav, Mark Manusak, Chuck Moul, Peter Reiss and Alan Sorensen for helpful advice. We also thank the anonymous referees and coeditor for many helpful suggestions. 1 Introduction Cofinancing is a term used in the movie industry to describe films for which multiple firms share the cost of production and revenues. 1 At its peak in 1995, 35% of movies produced by the major studios were cofinanced, accounting for 42% of studios’ total production costs in that year. A leading example is the hugely expensive and successful movie Titanic , which was jointly owned by two competing major studios: Fox and Paramount. The conventional wisdom in the movie industry is that cofinancing is for the purposes of risk management. However, risk averse behavior by public firms, as the studios are, is in contrast to standard models in which firms produce to maximize expected profits and investors choose portfolios of equity in multiple firms to obtain their utility maximizing trade-off between expected returns and uncertainty. 2 The goal of this study is to evaluate whether studios have used cofinancing to mitigate their exposure to risk. There is no question that financial risk is a primary characteristic of the motion picture industry—demand is notoriously difficult to predict and nearly all costs are incurred before any demand is realized. This feature has led to a variety of film financing arrangements, as described in Cones (1998). Some authors, such as Desai, Loeb, and Veblen (2002), have even suggested that financing strategy is the key variable that shapes the industry. We construct a dataset to analyze the extent of cofinancing and potential reasons for this financing strategy. We find thatanalyze the extent of cofinancing and potential reasons for this financing strategy....
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This note was uploaded on 10/05/2010 for the course ARTM 360 taught by Professor Wentworth during the Spring '09 term at CofC.
- Spring '09