PE goes to the movies: Part II

When Citicorp Capital Asia (CCAL) teamed up with Chow's Golden Harvest to form a film financing fund in the 1990s, box office hits and box office takings were expected to follow. While the hits did indeed come - films backed by the Golden Harvest Film Fund included the 1997 release "The Soong Sisters," starring Maggie Cheung, Michelle Yeoh and Vivian Wu - the takings did not.

Karam Butalia, executive chairman of KV Asia Capital, who was at CCAL when the fund was set up, recalls "The Soong Sisters" just managing to break even once the production house and distributors took their cut.

"You have to understand the business and the finances are part of that. In this respect, the difference between success and failure is not that dissimilar from other industries," he said. "With ‘The Soong Sisters' we were meeting people like Maggie Cheung and it's only later you think about how much money you've made. You are taken in by the females and the wining and dining."

It is a warning worth remembering now that private equity is basking in its latest foray into cinema.

Hony Capital and TPG Capital's growth investment arm have partnered with two Hollywood producers to set up a film studio, which will invest more than $1 billion in productions over the next five years. The studio will put out 8-10 "star-driven, mid-budget films" each year, with Hony leveraging its China connections to deliver access to world's second-largest movie market by box office sales.

It is a familiar refrain, harking back not just to the CCAL fund but also to early 2012, when two China-focused film funds - Harvest Seven Stars Media Fund and China Mainstream Media - launched within a fortnight of one another. These funds would support local productions, potentially working with overseas studios.

The economic rationale of co-production joint ventures is clear. China only permits 34 foreign films to be show within its borders each year and overseas producers must work with accredited domestic distributors that keep all but around 25% of box office revenue.

"Transformers: Dark of the Moon," the third film in the sci-fi action franchise, generated ticket sales of $145.5 million in its first three weeks on release in China. Had it been a Sino-foreign co-production, the distribution restrictions on foreign films wouldn't have applied and the producers' cut would have been 40-45%. That represents a significant addition to their bottom line.

The problem - assuming producers can negotiate cultural differences and political limitations and deliver a film that appeals to audiences in China and overseas - is not so different from the one facing CCAL: transparency.

In the West, films are bonded, which gives investors a degree of security, and trusted intermediaries operate in the space between the cinemas and production companies. China lacks an established, uniform mechanism for collecting box office takings. There are also stories of fraud and difficulties remitting funds out of China due to the lack of an appropriate license or an unwillingness to pay taxes.

Given this background context, the comments made by Hony CEO John Zhao on the recent film studio investment are telling. He identified the benefits the PE firm could bring through its interests in local production and distribution company SMG Pictures and online TV provider PPTV.

While China's cinemas, and the way they are managed, is modernizing, and heavyweight distributors like SMG Pictures can help facilitate this development, PPTV is perhaps more interesting. Hony and Suning Commerce bought a majority stake in the business last year, clearly sensing that China's fractured media distribution model is becoming more digital, streamlined and ultimately profitable.

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• Topics
• Media
• Greater China
• Expansion
• China
• TMT
• Hony Capital
• TPG Capital