The movie industry is famous for what is known as ‘Hollywood accounting’. In simple terms, this involves studios using accounting methods to obscure the budgets and profits of blockbuster movies. For decades it has been suggested that this is the driving force behind Tinsel Town but recent disclosures have shown that in some cases it is actually nothing more than Hollywood legend.
Perhaps the best evidence of this is Disney’s Marvel Studios movie Ant-Man and the Wasp: Quantumania. The super hero flick debuted in February last year to a lukewarm reception and only grossed $476.07 million according to industry analyst Box Office Mojo. Studios typically receive around 50% of the takings meaning that Disney got around $238.05 million which was $92.05 million less than its net spending on making the movie, as we recently revealed.
The cost of the movie isn’t speculation or an estimate but a fact, which comes directly from Disney’s filings. It’s not the kind of disclosure a studio would make if it was trying to hide or disguise its spending.
Budgets of movies aren’t usually disclosed by studios as they tend to absorb the costs of all of their productions in their overall expenses and don’t itemize how much they spent on each one.
Like most studios, Disney doesn’t discuss the costs of individual productions and didn’t respond to an opportunity to comment. It doesn’t need to because Quantumania was made in the United Kingdom and the production companies behind movies made there have to file financial statements which disclose everything from their total costs right down to the number of staff they employ, the salaries they were paid and the amount of social security contributions they received. If the production company has more than 250 employees it even has to disclose the difference in pay between men and women as well as the percentage of its workforce which is female.
The production budget of ‘Quantumania’
Ironically, studios filming in the UK have to be transparent to boost their profits, not opaque. Studios don’t just shoot in the UK due to the picturesque landscapes, the lavish facilities and the availability of highly-skilled talent. They shoot there to benefit from the UK government’s Audio-Visual Expenditure Credit (AVEC) which gives them a cash reimbursement of up to 25.5% of the money they spend in the country.
To qualify for the reimbursement, at least 10% of the production costs need to relate to activities in the UK. In order to demonstrate this to the government, studios set up a separate Film Production Company (FPC) in the UK for each movie they make there.
The terms of the reimbursement process state that each FPC must be “responsible for pre-production, principal photography and post-production of the film; and for delivery of the completed film.” Studios aren’t allowed to hide costs in other companies as the terms also state “there can only be one FPC in relation to a film.”
These companies then have to file financial statements and, voilà, the cost of the movie is no longer a secret. Not only does it come straight from the horse’s mouth, as the companies are owned by the studios, but the data in the filings can’t be questioned as UK law stipulates that it has to be true and accurate. However, it isn’t quite as easy as that.
Firstly, the companies usually have code names so that they don’t raise attention with fans when filing for permits to film on location. The Disney subsidiary behind Quantumania is called Pym Productions III UK in a nod to the fictional particles which enable Ant-Man to shrink.
Secondly, the financial statements are far from straightforward and although some may see this as evidence of Hollywood accounting, it actually has an entirely logical reason. It is all down to the funding mechanism which differs slightly from film to film but generally follows a similar model. This begins at the very start of production.
A Hollywood studio buys a script from a screenwriter and green lights a movie about it. If the studio decides to make the movie in the UK it then sets up a subsidiary company there which acquires the script from its US-based parent.
Acquiring the script gives the UK company the rights to the make a movie about it and the Hollywood studio pays it a small production services fee. As per the rules, the UK company must be responsible for everything from pre-production and principal photography to post-production, delivery of the finished film and payment of goods and services in relation to it. Then comes some financial wizardry.
If the UK company makes a profit, the financial benefit from the UK government comes in the form of a reduction to its tax bill. However, if it makes a loss, it receives a cash reimbursement in the form of a tax credit so studios fund the companies in a way which engineers this.
As shown in the diagram below, the studio buys the rights to the film from the UK company but only gives it approximately 74.5% of the projected production cost. The remaining 25.5% is provided by the studio in the form of a loan. The loan and the revenue from the sale of the rights gives the UK company 100% of the production budget for the movie and this sets the scene for the cash reimbursement.
How the UK’s film tax credit works
Loans are not counted as revenue because they need to be repaid. The UK company therefore makes a loss equivalent to around 25.5% of the movie’s budget. That is when the UK government steps in as it reimburses this loss. As the amount of the reimbursement is equivalent to the loan that the company owes its parent, the cash can be passed to the Hollywood studio as repayment. Thanks to these twists and turns, the UK government covers 25.5% of a film’s costs, thereby reducing the studio’s net spending on it.
That reimbursement came to $58.3 million (£44.5 million) for Quantumania bringing the $388.4 million (£301.5 million) costs of the movie down to a net of $330.1 million.
Crucially, marketing costs are not shown on the financial statements, as they tend to be covered directly by by the studio. Likewise, revenue from theater ticket sales, merchandise and home entertainment, including streaming subscriptions, also goes directly to the studio. The theater ticket sales data is released by Box Office Mojo but there is no equivalent source for merchandise and home entertainment revenue. The same goes for the marketing costs which also aren’t public as the studios don’t disclose them.
If the merchandise and home entertainment revenue is high enough, not only could it exceed the marketing cost but it could also cover a loss at the box office meaning that a movie could lose money in its theatrical run and still make a profit. However, it isn’t possible to confirm this as the data isn’t public. In contrast, there is no doubt that Quantumania made a profit even though it lost money at the box office. There is good reason for this.
The cash that the studio pays for the rights to the movie is shown as the revenue in the production company’s financial statements and its expenses are the film’s total costs. The biggest component of the production costs is usually shown on the financial statements under the category of cost of sales whilst the administrative expenses largely represent fees to auditors as well as a loss or gain from currency conversions.
Staff data for ‘Quantumania’
The maneuvers leave the UK company with a very small net profit which is equivalent to the production services fee from the studio. It isn’t a profit in the conventional sense as it isn’t generated by external revenue. The UK company is entirely owned by the studio so the profit is simply money which remains in its right hand rather than the left.
Nevertheless, it is a profit on paper for the production company behind a film which made a loss in theaters. Likewise, other pictures which made blockbuster profits in their theatrical run may still only show a small profit on paper. Ultimately it is because the takings from theater tickets go directly to the studio leaving the UK company responsible just for making the movie. That isn’t down to Hollywood accounting but the terms of the reimbursement which require it to be solely a film production company. If anyone is to blame for the way that appears, it’s the UK government, not the studios.
This post was originally published on here
