The British Film and Television Industries - Communications Committee Contents

Examination of Witnesses (Questions 785-852)

Mr Martin Smith, Mr James Clayton and Mr Andrew Noakes

3 JUNE 2009

  Q785  Chairman: Welcome. Thank you very much for coming. Certainly two of you have been here throughout and have heard all the previous evidence so I will not go through much of the preamble. Perhaps you could just tell us in a few words a little about both your companies?

  Mr Smith: Yes. Ingenious Media is a financial investment and advisory business specialising in media, including what we call progressive media, which is those parts of the media which are at the forefront of technological change, regulatory change and changes in consumer behaviour. We invest in what I think it is useful to call the creative content sectors. As well as film, it is television, music, games, live events, and we have a number of businesses in these areas. We have an investments business which James Clayton is the chief executive of, which is the business of most relevance to the discussion this morning. We also have an asset management business. We have a corporate finance business. We have a ventures business, which is at the small end of venture capital. We have three consulting businesses which deal with media strategy advice, regulatory policy advice and consumer facing businesses.

  Q786  Chairman: Andrew Noakes, we met you I think when we came to Pinewood.

  Mr Noakes: You did indeed.

  Q787  Chairman: Thank you very much for that visit which was fascinating. To your credit, you have worked now on every James Bond film since Octopussy?

  Mr Noakes: Ten of them in total out of the 22 that were made.

  Q788  Chairman: You were associate producer on Casino Royale and indeed on Quantum of Solace.

  Mr Noakes: Yes.

  Q789  Chairman: Martin Smith, you quoted a comment in a speech in 2008 from Alan Parker, that we can never be the biggest film industry in the world but we should be right up near the top of the league and not permanently hovering in the relegation zone. Do you think we are in the relegation zone at the moment?

  Mr Smith: I think it very much depends on criteria. I think there are three verities here which dictate almost everything that we have to say this morning. It may be helpful if I underline those. The first is this: —Nobody knows anything", in the famous aphorism of William Goldman, the screen writer, critic and novelist. What Goldman means by this is that in the film business nobody can predict what is going to happen, either in relation to a specific film or even a slate of films. It is about extreme volatility and extreme unpredictability in terms of the demand side of the equation. The second thing is—and this is particularly relevant to your question—the tectonic plates are moving at the moment in a very specific way. We have a combination of a structural change in media markets brought about by the process of digitalisation, which leads in turn to extreme fragmentation in media markets, combined with a cyclical change which we all know about—the credit crunch and so on—which aggravates matters, which means that the uncertainty which I have just been speaking about from an investor point of view is even worse than it might otherwise be. The third conditioning remark is that, it does not matter how brilliant your script is; it does not matter how great your directors and your actors are; you cannot do anything if you do not have any money to invest. What we do is raise funds, raise risk capital, from around 5,000 investors. It is very difficult to do and we do it in an environment which is extremely sensitive, amongst other things, to tax. As we know, the regime has changed. To go back to Alan Parker's remark, already the context has moved on since he made that remark. I think already it becomes more difficult for us to compete in the Premier League, to use the metaphor that Lord Puttnam used earlier. The corporate or house view at Ingenious is that we will not be able to compete in the Premier League unless there is a fundamental change in attitude towards the raising of risk capital. This does not apply only to film; it applies to all of the content sectors. Unless in this country we take more seriously the policy requirement to encourage investors to come in, unless we have an answer to the question —what is the risk adjusted rate of return that is necessary to bring investors into the film industry?" we will not be able to make that move from the Championship to the Premiership.

  Q790  Chairman: Mr Noakes, what is your view about the British film industry at the moment? At times people appear to be rather depressed about the outlook for it. How do you view it?

  Mr Noakes: It is a rollercoaster. When we are on a high, we are on a massive high and everybody is working and everyone thinks it is rosy. There is always going to be a decline and it just depends how far that goes down. If it goes too far, there are too many people unemployed. There are too many people saying that they are not working; it is not a great industry to be in; it is not a great place to be. The ideal would be just to maintain a level, whatever that level may be, whether it be at the very, very top or whether we are happy to be in the middle. I guess everyone wants to be at the top. What we need to try to avoid is these peaks and troughs. The troughs are killing the industry and companies. I know crews that are now leaving. Certain people have decided they cannot stay in this industry. It is just crazy. They are up; they are down. They do not know where they are. Their wives are getting upset with it, so they are just pulling out. —That is enough, thank you."

  Q791  Chairman: Your own James Bond series of films is a bit of an argument against all that. How long has it been going now?

  Mr Noakes: Since 1962.

  Q792  Chairman: You have been through one or two general economic crises in your time.

  Mr Noakes: Bond is the most successful franchise ever. I do not know why. It is brilliant. It is James Bond. It is English. It is everything that we want it to be in this room. It is a formula that works. It is a formula that very, very rarely changes from film to film. It is still the classic great locations, great looking girls, the cars, the gadgets. We have pulled away from gadgets at the moment but I think they will come back. People do like them. Michael and Barbara are very traditional about what you will see Bond do and what you will never see Bond do. Sometimes people would suggest it would be great if you could see Bond in his kitchen cooking breakfast. You never see Bond's house. You do not want to know where he lives.

  Q793  Chairman: Apart from the characteristics of this wonderful actor, do you keep the same film team with you?

  Mr Noakes: Kind of. It is changing now. Directors are coming in with their own agendas and their own power. I think directors are getting more powerful. They are allowed to bring their own crews in. They have a comfort zone. Producers will give the job to a director and say, —That is your job. Now you make the movie. We are going to oversee you, but the creative side is really your baby." He will argue that he wants a core five, six or ten people, but from our side, yes, we do keep the same family.

  Q794  Chairman: James Bond is meant to be quintessentially British, is he not? How much British money goes into this film making?

  Mr Noakes: Not a lot. None. It is completely US financed.

  Q795  Lord Maxton: Even Casino Royale was not made in this country either, was it?

  Mr Noakes: No, but it was made under a co-production. We shot about six weeks in Pinewood. We needed the 007 stage. It is a unique stage. It is the only one in Europe.

  Q796  Lord Maxton: The external shots were all done in Prague?

  Mr Noakes: We did a lot in Prague and the Bahamas.

  Q797  Chairman: Was that right from the beginning? The first James Bond film was also US financed?

  Mr Noakes: Yes, very much so. Harry Saltzman was the original producer and he was an Englishman. He could not get any finance. He went to the American studios and he could not. He then teamed up with Cubby Broccoli. He then arranged the finance through United Artists. United Artists have ever since basically retained the ownership of their rights. They keep being bought and sold, but yes, it is always America and America will receive the funds.

  Q798  Lord Macdonald of Tradeston: Mr Smith, you are obviously not burdened by any great legacy in Ingenious. You have 5,000 investors. Have they been investing long enough to see the kind of returns that you would get from your approach to film financing?

  Mr Smith: If I may, I will pass that question to James.

  Mr Clayton: Not quite yet. The average lifecycle of a film from investment to the end of its first cycle of economic life is probably six to seven years, so we are still in the early stages. We can predict with a reasonable degree of accuracy post-theatrical release what the ultimate revenue stream will look like, but it is still too early to say.

  Q799  Lord Macdonald of Tradeston: Is there anything you would like to add if you were able to listen to Michael Kuhn and his analysis?

  Mr Clayton: I agree with every single word he said.

  Q800  Lord Macdonald of Tradeston: There is nothing additional that you would want to add?

  Mr Clayton: It is important to understand that the film business within the UK falls into two parts. There is the aspect that is funded and driven by the US studios, for whom the business is global. Then there is the aspect that is driven by very hard working, tenacious, imaginative UK producers who are originating and producing their own material out of the UK. The two are very, very different.

  Q801  Lord Macdonald of Tradeston: It was a certain irony to hear my radical friend, Lord Puttnam, explaining that he wanted to keep the entry barriers up through 3D film because it was in danger, presumably, of being overrun by people who could make films more cheaply. I noticed in Cannes there were 5,500 films with only 600 released annually in America. If we have a disruptive technology here that can blow away a lot of the old structures and the old orders, I can understand their trying to defend against it, but does this undermining of an American dominated, international model not give the British the opportunity to ride the new wave and form our own niche?

  Mr Clayton: I do not think it is us and them. I think 3D is beneficial for everybody. We are involved with a very high profile 3D movie called Avatar, which James Cameron of Titanic fame is directing, which is going to revolutionise the cinemagoer's experience. It is completely different to anything anyone will have seen before. The point of that is giving people something in the cinema that they cannot get anywhere else. There are huge pressures on people's leisure time, whether it is TV, internet or games. To keep cinema front and central, we as financiers and film makers need to offer the cinemagoer something that they simply cannot get anywhere else. I do think that as the technology improves and costs come down 3D film making will be something that everyone can pursue.

  Q802  Lord Macdonald of Tradeston: I can understand that but with video on demand and digital distribution and so on, will that not undercut the old models and therefore offer you the opportunity to try and create a new model that would give Britain a better chance in the future, because the wave is unstoppable, surely? You are not going to hold back the tide.

  Mr Clayton: That is right. That is a very good question. The collapsing of windows is about price differentiation. You give people what they want at the right price, when they want it. The great advantage for video on demand and immediate delivery technologies is that more products can get into the market place. The challenge is how you market it. There is a system of gatekeepers at the moment. The distributors decide what films they want to buy and risk releasing. The cinema owners decide how they want to programme and the TV stations decide what they want to buy. With video on demand, in theory anyone anywhere can make a film and make it available on the internet. What we will need to see is people actually marketing them in such a way that we, the consumer, can decide what we want to buy.

  Q803  Lord Macdonald of Tradeston: Can you model that with a potential audience now in billions?

  Mr Clayton: It is impossible. There are revenues starting to come through from video on demand. It is still very embryonic. It is hard to predict to what extent traditional revenue streams from theatrical and home entertainment will fall and be compensated by the uptake in video on demand and online.

  Mr Smith: I was following the discussion in the earlier session about video on demand. The business models for VOD are all still untested, or almost completely untested. None of these companies that I am aware of is making any money or certainly not any serious money. It is fantastic for the consumer. If you want to gorge on Chabral or Eisenstein every weekend, it is great because you can actually access that long tail, to use the well known phrase, much better. But for investors and from a business perspective we really do not know where VOD is going.

  Q804  Chairman: Can you explain briefly the process involved in financing the latest James Bond film, Quantum of Solace?

  Mr Noakes: The studios are pretty easy to finance. Bond is unfortunately too easy. I will probably get shot for that. We base ourselves on the last movie. We know what it took, so we can go to the studio and say, —We want to make the next film." They are going to give us an indication of what they want to spend on the next one. They will look at what the last film cost. They will tell us what they want to spend. We will then start playing around with numbers and then it becomes a bit of a horse trade. If they say they want to spend 180 million and act like it is 200 million, we will compromise somewhere in the middle. They know that they want the product; we know that they want the product. It is just a matter of finding the right number that fits for them.

  Q805  Chairman: With this degree of certainty, could you raise the money even in Britain?

  Mr Noakes: I do not know for sure but in all probability. In this case, Sony co-own the rights with us. We own 50 per cent; they own 50 per cent. The rights are going back to MGM after Quantum of Solace so we will be dealing with MGM. MGM could pass it to any studio they like and say, —Who wants to finance Bond?" and do a deal with them.

  Q806  Baroness Eccles of Moulton: On the question of risk and reward, in the previous evidence it became absolutely clear that the big risk on the distribution side for big enterprises cannot really be dealt with here in the UK. We talked about how that could be stimulated on a smaller scale. From what you have told us about the investors that you have collected together, that seems to be moving absolutely in the right direction, but clearly it needs to grow. We were given an example of the Film Council as being the possible source of this encouragement. Do you think the fact that the distributors take the risk and therefore they get the big rewards means that our producing end is really suffering quite a lot from not getting a fair cut of the cake and there are more efforts that can be made in that direction added to the ones that we have already heard about?

  Mr Clayton: The risk/reward equation is absolutely at the heart of our investment policy. Assessing risk in film is tremendously difficult. As Michael said, no one says nothing but I would like to take Andrew up on his offer! You could finance a James Bond film in a heartbeat out of the UK because the track record is unparalleled. There is nothing else like it. Going back to your direct question, we raise money from investors on the basis that we pursue a portfolio approach. That means a blend of studio distributed films worldwide where you know that you have a partner who is aligned and you understand the economics of that business; versus supporting the independent sector and taking more of a view on how well an independent film will perform. When we assess an independent film, one of the key things we look for—and this is the tension between production push and distribution pull—is how receptive distributors are to that project. There is a balance between taking money from a distributor at script stage, which shows they believe in the project, they are prepared to release it, they think it is going to work, and sacrificing potential upside from their territory if it does work, versus holding it back and going for it later when you hope that you have a film that has exceeded your expectations. Our view is you have to strike a balance between the two. You want some distributor buy-in, so that you have sold off some of your territories to show that the film does have a value. Then you would also like to hold some back so that if the film performs you are benefiting from the upside.

  Q807  Chairman: We keep on talking about Championship and Premier League and everyone seems to agree we are in the Championship and not in the Premier League. Is most of Europe in the Championship as well?

  Mr Clayton: I would not say that we are any better or worse off than the rest of the European territory. In some respects, I think the English language is a big advantage for us because it is something that does sell better internationally when the films work, whereas local language production is often generally constrained to its home territory. It is priced accordingly. Occasionally you have break out films that do translate and cross over but I think our English language is a huge advantage. A lot has been written and spoken about the holy grail of the pan-European distribution business which would go some way to helping create scale in the independent sector, but for cultural reasons that is extremely difficult to execute.

  Q808  Chairman: The cultural reasons being language?

  Mr Clayton: Yes. The only people who have successfully pursued it are the studios because they deliver a type of product that works in any territory: big, event driven films with stars.

  Q809  Chairman: Which you can dub?

  Mr Clayton: Which you can dub. Typical, lower budget, English films with particularly English subject matter are much harder to distribute, notwithstanding the language, internationally unless they have very mainstream appeal.

  Q810  Lord King of Bridgwater: We have clarified a lot this morning and you helpfully heard the earlier evidence. This business about how to help British film production comes down very much to how you can get more investment into the original production of films. In your evidence you mention this issue about VCTs and EIS as well. In fact, the press comment I have here is that that is looking quite a promising area. How many people are there like you working in this field? You are one of the companies trying to rally round investors. Is that right?

  Mr Clayton: A handful.

  Q811  Lord King of Bridgwater: How do they rate? You said you try and tackle 5,000 investors.

  Mr Clayton: We have an existing investor base of around that number, but we raise funds annually, so with each year the investor base increases. We have current investors who return and the network grows every year.

  Q812  Lord King of Bridgwater: Have you the material in which they need to invest? In other words, have you plenty of opportunities for investors or do you not have enough?

  Mr Clayton: It is challenging. One issue that is worth underscoring that Michael referred to earlier is that there are certain constraints in terms of size imposed by VCT and EIS rules which make them not particularly suitable for film investment. The other challenge is we raise money and then we deploy it. It is fine where we can deploy amounts with US studios because their businesses are hugely capital intensive and volatile and their conglomerate parents put a lot of pressure on them to find co-financing sources that smooth out that volatility. Finding good quality, commercial UK independent films to invest in is much more challenging.

  Q813  Lord King of Bridgwater: How many companies are there like you, do you think?

  Mr Clayton: Five or six; ten at most.

  Q814  Chairman: When the rules changed on tax credit, you seemed to be a bit underwhelmed by that or am I wrong? I think you said in your speech, Mr Smith, that where private investors previously stood to lose only £60 out of every £100 invested now they stand to lose the lot in an unsuccessful venture.

  Mr Clayton: This goes to the issue of —sideways loss relief". When you are raising money for investors and trying to encourage them to take the decision, to take the risk of supporting creative content, which as we all know is an incredibly risky business, we as fund managers have to find ways to try and de-risk that investment for them, make the investment decision as easy as possible. Part of the way we do that is working with trusted partners, where we have an alignment with our money and their money. Another way is tax. A lot has been written about this. I think it is important to understand that you could use tax to enhance cash flow, perhaps protect downside, but the investors' overall return always depended on our ability to choose the right films and make the right deals with their money. Without that knowledge, without that safety net from tax, if the films do not work, it is very hard—in fact, probably impossible—to look a sophisticated investor in the eye and tell them that it is a good idea to back film. Studio films, yes, because they have a consistent track record of delivering returns. Independent films? It is much, much harder because you simply do not know what is going to work. Slum Dog Millionaire is a very good example. We backed the last two Danny Boyle films, Millions and Sunshine, both of which lost money. I am not afraid to perhaps embarrass myself by saying if we had been presented with that project, a $15 million film with an Indian storyline with no cast, based on the last two films, I would have said no, because the risk and the return just did not work.

  Q815  Chairman: Had it been under the old regime, you would have?

  Mr Clayton: Yes, absolutely.

  Q816  Chairman: In other words, what you are saying is the tax cushion has gone?

  Mr Clayton: Correct.

  Mr Smith: I think this is a vital point because it is the context within which we formed a view about the film production tax credit. When we discussed with HMT and others what the new credit should be, it was in the context of a tax regime which was abolished on 2 March 2007. It is the relationship between the two which is crucial.

Lord King of Bridgwater: Do we know what the abuse was?

  Q817  Baroness McIntosh of Hudnall: I think that is where we want to go. This Committee has struggled over the last several weeks to understand firstly what was the nature of the tax system that was subsequently abolished and what were the kinds of abuse that led to the Treasury in the end deciding that they wanted to pull the rug from it. How does the new system work and why is it your view, as I understand it is, that it is a less beneficial system from the point of view of attracting investment into film? Could you give us a little seminar on both bits of that as briefly as you can?

  Mr Clayton: It is a very complex area.

  Q818  Baroness McIntosh of Hudnall: We did get that much.

  Mr Clayton: The underlying premise was that if you lost money by taking a genuine risk investment you could relieve that loss against your other earned income. You were taxed ultimately on your net position as opposed to your gross position. Our aim in our business is to create a sustainable bridge between private investors and creative communities. To do that you need to make their returns from performance of the film or the TV programme or the video game or whatever it may be. It was a sector that really needed policing because amongst all that you could have vehicles that had a commercial engine at their heart. Equally, you could have vehicles that were simply about tax avoidance. Put in 20, you get back 40, no further returns from the film, end of story, so essentially free money to the studio or the film producer as opposed to a genuine risk investment that is seeking a genuine return from that risk. What we argued for at the time was a pre-clearance mechanism and a purpose test which would have allowed HMRC and the Treasury to vet the propositions that were in the market place and give certainty both to the investor community and the film community. Coming on to the new tax credit, one of the best things that it has achieved is it has given absolute certainty. It is in the form of a grant, because it is money that has gone. Notwithstanding how successful the film is, HMRC and the government do not participate in the receipts from that. Under the way we operated, as worldwide receipts came back into the UK tax net, they were taxed on those individuals who had made an investment, being the same individuals who would have enjoyed the tax relief had the film not performed, so there was a symmetry to it. The film tax credit is fantastic in terms of certainty. What it does not do is stimulate inward investment from the private investor community, which is essential if one is serious about sustainability.

  Q819  Baroness McIntosh of Hudnall: We are struggling to understand why the old system was open to abuse and what the abuse was. As I understand it, you are saying, to put it very simplistically, that it allowed people who really had no interest in the film business and who were not concerned in any way with the quality of the product that was going to be produced, who had no commitment to that, to invest money in any old project, to put it very crudely, from which they could then get back a substantial financial return. Is that right?

  Mr Clayton: Correct, notwithstanding performance.

  Q820  Baroness McIntosh of Hudnall: Your view at the time was that in some way—again, correct me if I am wrong about this—the Treasury and HMRC could have taken a position that would have meant there was more quality control in respect of the kinds of project.

  Mr Clayton: Absolutely.

  Q821  Baroness McIntosh of Hudnall: And that would have resulted in a beneficial tax scheme that delivered more benefit than the current one but was firmly located in preserving the quality of the product.

  Mr Clayton: You have explained it far better than I did. That is absolutely right and the two would have been very complementary together. You could have had investment from the private investor community allied with the film tax credit, which gets you a long way towards being able to finance your budget.

  Q822  Baroness McIntosh of Hudnall: If we come on to now, we have a tax system which delivers certainty in the way that you have described. It has certain aspects to it about which people are not entirely wholehearted—for instance, the cultural test which has certain things attaching to it which apparently have an impact on co-productions?

  Mr Clayton: Yes.

  Q823  Baroness McIntosh of Hudnall: There are presumably other complex, technical aspects of it which I have not got hold of yet which are different. Is there anything in the current system that could be modified, as you see it, from an investment point of view, without substantially increasing the risk that the Treasury will find itself stuck with another loophole but which would help with attracting inwards investment? Martin Smith made the point about the public policy implications not just about tax credit but about more general encouragement of investment into the business. It seems to me you are distinguishing that from simply saying, —Put public money into it".

  Mr Clayton: Correct. Within the framework of the tax credit as it currently stands, no, I do not think there is anything you could do to attract private investment into it. While we are on the subject of the tax credit, there is probably one point that is worth making in terms of its effectiveness. It is very attractive for the US studios because at its heart is a core expenditure test based on where your expenditure takes place. If you are an American studio bringing American stars to the UK, provided you satisfy your Britishness test, your spend on those stars goes towards calculating the basis of your rebate. If you are an independent producer trying to make your film for the lowest possible amount of money, which often means working outside the UK because it is a high cost jurisdiction, taking UK talent and working in, for example, another EU Member State does not count. That is an anomaly which has caused the levels of co-production in this country to fall off a cliff.

  Q824  Baroness McIntosh of Hudnall: You do not think that could be modified within the existing regime?

  Mr Clayton: I think that could be modified to make producers' lives easier, but I do not think it does anything to help the argument for pulling in inward investment.

  Q825  Chairman: If that anomaly was withdrawn, would that help in terms of encouraging inward investment?

  Mr Clayton: It would help producers but it would not help investment from the private sector.

  Q826  Baroness McIntosh of Hudnall: From a public policy point of view, what would help to encourage the idea that a government can do, other than manipulate the tax system? Mr Smith, your point is we do not take the film business seriously. We do not regard it as serious commercial activity. Is that correct?

  Mr Smith: It is. It is why the discussion we have just been having about the film production tax credit is essentially a discussion about the 17 or 18 per cent. We do not focus on how we raise the other 82 or 83 per cent. This is the problem from a public policy perspective. The Treasury, as far as we can tell, does not engage with these issues at all. It is very important to understand the idea that we came up with, when the tax regime was changed in 2007. Bear in mind this is not about film tax; this is general accounting rules. The Treasury at the time was not aiming at the film industry. It was aiming at all sorts of partnerships in timber and all kinds of other places. There was abuse taking place across the economy. They came up with this change and we said, —Look, oh Treasury. We understand that you are seeking to eliminate tax avoidance. We agree with that as a policy objective. We will give you a way which enables you to eliminate tax avoidance but does not throw the baby out with the bath water. Here is the amendment. This is how you do it. You have the purpose test and you have pre-clearance." I will not go further into the technical details, but that is a matter of parliamentary record because those amendments were tabled during the course of the passage of the Finance Bill 2007. Government whipped against them because the Treasury did not want to engage on the key issue of how you encourage risk investment into the sector. The position of the Treasury was—and as I understand it still remains—that all we are going to do on film is in the film production tax credit. We are not interested in the risk profile of the creative economy as such. The policy objective—and I think this is the right question—is that if, as we are told in the rhetoric of government on the importance of creative industries to the future of our economy, if we wish to will the ends of a creative economy which is growing and which is contributing more to our performance within the global economy, we also have to focus more on the means, which is how do we get investors into this sector as a whole. That is what the Treasury has not focused on and, unfortunately, the Culture Department which does have an interest in these issues is simply too weak to get these issues raised at the right level within Whitehall. That is our perspective.

  Q827  Chairman: There is a fundamental point here. Let us say you are going to get concessions here and there. Do you believe that it is companies like your own that have the future of the film industry in your grasp? Do you think that the film industry is going to be relying on private investors coming into this area?

  Mr Clayton: I would hate to think that it is on our shoulders alone but I do think private investment is absolutely essential. The economics of the independent market place at the moment are such that if you are an independent producer trying to raise £5 million for your quite British film, international buyers will by and large want to wait to see the finished product before they make a decision. They will not pre-buy it, which gives you a contract you can take to a bank to get discounted. There is the tax credit which is fantastic in its own way. If you cannot raise money from strategic partners elsewhere in the film business, then it all comes down to private equity and private investors prepared to take a punt on that film's performance. At the moment in this country that is in the hands of the UK Film Council, BBC Films and Film 4 and outside that a handful of friends and family who are prepared to back the film maker's judgment.

  Q828  Chairman: And yourselves?

  Mr Clayton: And ourselves.

  Q829  Chairman: How does that compare with raising money in the United States? How much of the money raised depends upon private investors putting money in? Are there a lot of high value, private investors who do that?

  Mr Noakes: In the States, I am not sure.

  Mr Clayton: In recent years there has been a wave of what is loosely called Wall Street money that has agreed to co-finance slates of studio films with studio partners over a period of two to three years. That money is drying up now because the markets have turned but the conglomerates, the parents who own these studios, generally do not like expensive subsidiaries that consume a lot of capital for a long period of time and have a very volatile industry. They prefer distribution, where they are not taking production risk so they are very keen to find financing partners wherever they can.

  Q830  Lord Macdonald of Tradeston: There is an old saying on Wall Street that if somebody has gone slightly off their head they have —Gone to Hollywood". In other words, they have started investing in film.

  Mr Clayton: It is still true.

  Q831  Lord Macdonald of Tradeston: The people who did invest in film lost their shirts as well recently, did they not?

  Mr Clayton: I am not saying we know any better but there is a graveyard of investors who have gone to Hollywood with stars in their eyes and been told what is a good deal when it is not.

  Mr Smith: The hedge funds became very interested in the last two to three years in Wall Street and over a period of three years Wall Street hedge funds raised about $13 billion to invest in slates of Hollywood films. With one or two exceptions—the Dune slate is an exception—a lot of people have probably lost their shirts.

  Q832  Lord Macdonald of Tradeston: Maybe Her Majesty's Treasury noticed that.

  Mr Smith: Maybe.

  Q833  Baroness Howe of Idlicote: You were very much part of the discussion that went on about reintroducing a levy. What about that as an additional source of funding? What sort of areas in today's world, rather than when it was originally evolved, could you legitimately take a slice of for film production?

  Mr Smith: I think it is a very interesting idea. I followed the earlier discussion with interest and I think there is considerable merit in going down that road. However, I do have also to reflect on my time in the 1980s when I worked for the National Consumer Council in a number of capacities. Like many Members of the Committee, I remember the great furore around the proposal to place a levy on blank audio tapes. The whole of the consumer movement, the National Consumer Council, Which? magazine, the National Federation of Consumer Groups, everybody in the world came out against the idea and that is why it did not happen. Strangely enough, within the political economy of the UK, the idea of levies is a controversial one. Notwithstanding that, I think it is a very interesting idea not least because it would generate not large sums of money but potentially some money which could be redirected back to producers and provide some element therefore of sustainable finance going forward.

  Mr Clayton: There is an interesting system in France. I forget what it is called. It applies a levy to independent French films which is then set aside and available to those producers for investment in their next project. It rewards success. It is not a grant that the producer gets irrespective of performance. It means the better his film does the more money he has to either develop his next project or contribute to his next production, which seems to me to be a logical approach.

  Q834  Chairman: Does that mean, if a Hollywood film is shown, no levy?

  Mr Clayton: In France it has to be a French qualifying film to be eligible for the levy. That precludes most Hollywood films.

Chairman: That sounds very French.

  Q835  Baroness Howe of Idlicote: Thinking of some of the areas which are doing extremely well like video games, which perhaps once or twice in some less than desirable areas use films, would that be an area for top slicing?

  Mr Clayton: I am not sure, to be honest.

Baroness Howe of Idlicote: I will leave that with you.

  Q836  Lord Hastings of Scarisbrick: If, from your previous questions, levies are a way of raising money and piracy from your evidence is a way of losing it, could you quantify some of the scale of what you see as being lost through piracy and what the trajectory is?

  Mr Smith: A very painful subject.

  Mr Clayton: We have a live example. One of the films we co-financed recently was Wolverine, a spin-off of the X Men series, released at the start of May. Shortly before release in April, a partially completed version of the film found its way onto the web. It was downloaded four million times and Fox, who are our partners on the film, estimate that it probably knocked $20 million to $30 million off the box office. It demonstrates that piracy really is a very clear and present danger. There has been a lot of talk about it and people have said broadband download speeds do not really permit film yet. It is not here. It is not with us. It is. I think that is a big wake up call for the industry.

  Q837  Lord Hastings of Scarisbrick: Would you see a way of charging the broadband providers because they access the capacity for the download?

  Mr Clayton: As you appreciate, it is an emotive topic for the ISPs because their view is it is not just their fault. There are some interesting areas for debate.

  Q838  Lord Hastings of Scarisbrick: What would you do about it?

  Mr Clayton: There is probably only a hardcore of consumers who know where to find this material on the internet. For most people, they probably have to go to Google first, so to what extent should we be asking the search engines to take some responsibility for directing people to this content?

  Q839  Lord Hastings of Scarisbrick: Be specific. If you had to frame legislation on this, what would you want to do?

  Mr Noakes: We met with FACT, the Federation Against Copyright Theft. They put the question out to a company that did research and they think that piracy is costing something like £500 million a year. It is a company called Ipsos which is recognised in doing this stuff, so it is a pretty good number. If anything, it is a conservative number. You mentioned the ISPs. The ISP providers get revenue. They advertise on their sites so when you are about to click on and download Quantum of Solace or whatever there is all this advertising sitting around it and they are getting revenue from that, from an illegal act that they are doing. They know what they are doing because they can absolutely watch their band width. If any one of us here is an ISP and we are throwing out two terabytes a day, it is pretty obvious we are streaming out pirate videos. They do not want to engage with fact or government. It is wrong. If you know something is going on, do not close your eyes to it and make money out of it. You have to be honourable and abide by the law. The government needs to tackle the ISPs directly, head on, and say, —Enough is enough." You cannot say the blinkers will not allow you to see around the sides. There is some craziness in the law. We have a test case where we have had a few guys go into a cinema and video our film. There is no law against camcording a film in a cinema. It is absolutely legal. FACT have been advised by the government that what they should do is try and prosecute these guys under the 2006 Fraud Act on going equipped to commit fraud. That is bizarre. You know we own the copyright; we know we own the copyright. What is on at the cinema is ours and the revenue should come back to the appropriate party, be it the US studios or the UK independents. We are happy to have a test case to try and push this through.

  Q840  Lord Hastings of Scarisbrick: Some people would argue this is inevitable because of the internet, broadband and IT availability. How do you mitigate it?

  Mr Clayton: I think you can mitigate it by collapsing the windows, so there are no dark periods. Part of the problem with piracy is that the film comes into the cinema and it then goes. If you have to wait four to six months before it is available on DVD, that is when piracy will be consumed; whereas, if it is always available but at different price points, it is like music and finding the point at which people are prepared to pay.

  Mr Smith: There is a formal answer to the question which is that what we have submitted to Lord Carter in the Digital Britain exercise that he is leading—we, Ingenious Media—is that there should be a new regime in which the ISPs have a formal responsibility. We have dreamt up the idea of connected provider liability, the point being that we want them to assume a responsibility for what goes out on their wires for the reasons just mentioned, but also we want it to incentivise them because they also need to make a penny here and 2p there. It is about a carrot and a stick. We have to bring the ISPs into this as part of the solution. I agree absolutely with James. The answer to piracy is not a simple one. It is not only about changes in the law. It is about new business models, collapsing the windows as James has just described. It is a very complex set of issues. It is also about media literacy. Lord Puttnam has argued many times that we have to promote a discussion, not just in schools but within society generally, which encourages people to recognise the value of the creative content which is being made available to them so that they do not think it is right just to nick it. That is really the problem that we are facing.

Chairman: We are interested in what you have said about Digital Britain because we should have that in the next couple of weeks and we will see what they say on piracy. I think we need no persuasion, having listened to evidence from a number of people, that this is quite a complicated area and a complex area to take action in. We also note obviously the importance that various witnesses have put to it.

  Q841  Lord Gordon of Strathblane: In your evidence you say that the Film Council cannot meet its objectives because it does not have the levers at its disposal that would be necessary to deliver success. Are you referring to finance or powers?

  Mr Smith: Our view on the Film Council is that the objectives which it is set do not correlate means and ends. They are given the task of achieving something which they cannot achieve because they do not have the necessary levers at their disposal. They are not able because they do not have the powers and they do not have the commercial skills, frankly, to bring in significant amounts of investment.

  Q842  Lord Gordon of Strathblane: What needs to be changed?

  Mr Smith: That is quite a big question, as is the whole question of the nature of the Film Council. In a sense, you are inviting me to answer that.

  Q843  Lord Gordon of Strathblane: If it could be improved, we would like to know how.

  Mr Smith: I would start by asking the question —Which way does the Film Council face? Does it represent the government to the film industry or does it represent the film industry to the government?" There is little doubt in my mind that it represents the government to the film industry. Certainly if you look at what it was saying about the film production tax credit and the wider tax issues that we were referring to earlier in 2007, it was speaking on behalf of the Treasury. That worries me, speaking personally. It does not seek actively to promote the view of the industry to government. It does it the other way round. It does extremely valuable work on what I would call the supply side of the equation. It does fantastically good work in training and skills, in the roll-out of digital screen and so on. All of that is fine. What it does not do, because I do not think it can, is significantly contribute to the raising of risk capital. That has to be a task which rests much more broadly across government proper. That is a Treasury function. It is a BERR function.

  Q844  Lord Gordon of Strathblane: A Treasury function to raise the risk capital?

  Mr Smith: It is a Treasury function to promote a regime in which it is attractive to invest in these assets. It is also an issue for BERR and others in Whitehall. The real problem, if I may say so, that I have with the Film Council is the way in which it provides a narrative for what is happening in the industry as a whole. If you look at what it said last year for example when its annual report came out, it is a Panglossian view of the world. All is well in the best of all possible worlds, because actors and actresses are doing fantastically and we are winning lots of Oscars and so on and so forth, all of which we agree with on the creative side; but the narrative that they produce is not an accurate reflection in our view of the state of the independent UK film industry. It talks up the game. Is there very much happening in the independent sector at the moment? Not a lot is the fact of the matter.

  Q845  Lord Gordon of Strathblane: Could it not be argued that in stressing the successes of the British film industry the Film Council is in fact representing the film industry to the Treasury and showing what a worthwhile investment it is?

  Mr Smith: I do not have a sense that, when the going gets tough, it sides with the industry. The question of the change in the tax rules in 2007 is a prime example. We fought the battle. We drafted the amendments. We went out and lobbied for a change which we believed would have a beneficial effect on the propensity of investors to invest in the industry. We were not supported by the Film Council. We were opposed by the Film Council.

  Q846  Chairman: Are there any additional, short points that anyone wants to make? Mr Noakes, what is your view on the general availability and levels of skills in the British industry?

  Mr Noakes: We have a very great level of skills. I know Vector have been here and they have been saying that we should bring foreigners in here. Sometimes you are going to have to let some foreigners come in. To let ten people in to employ 2,000 people is not a bad ratio. We are still developing skills. There is the Production Guild that is doing inward training within ourselves. There is a bunch of us. The Brits do run their own programmes. Skillset is a fantastic organisation. It has an awful lot of cover. I did not realise that Skillset has to cover many issues, not just film, which is what I am interested in. The industry is not broken but it could break. There are cracks and the cracks will either get bigger or smaller. The tax credit definitely brought Quantum of Solace back to the UK. Without it, Quantum would not have been in the UK. It just needs to be looked at. The Germans have a great incentive. They allow up to 30 per cent of their script pages to be shot in foreign countries because they recognise films will go abroad. If you have to shoot the Eiffel Tower, you have to. You cannot avoid it.

  Q847  Chairman: Are the Germans a big competitor to somebody like Pinewood?

  Mr Noakes: Definitely. They have very big studios in Berlin. The Czech Republic will come in with a tax break. I hear this from the Czechs. I still talk to them. When that comes in, they are going to be unfortunately more competitive than us. Within the studio side, the American studios will pay a comfort factor. They may pay a million, two or three million, to come and shoot in the UK because you are guaranteed to get your movie made here. You are going to get the service. You are going to get the studios. Nothing really is going to go wrong here. The tax credit is not changing. It says exactly what it does on the tin. If you qualify, you will get your money and you will get it very quickly, which I think is fantastic. We have to remain competitive. From my side, competitiveness is the biggest issue. If we do not, we will fall into a slump in a few years' time. We will not have films. Either the Czech Republic or Hungary will kick off again. They will get strong.

  Q848  Chairman: Who is the major competitor at the moment?

  Mr Noakes: Hungary, the Czech Republic and America. There are 40 states in America that have different tax incentives. As soon as one comes up with one, the next state tops it with something else. There is a little auction going on. New York has run out of money because theirs was so good that everyone went there.

  Q849  Chairman: And Germany?

  Mr Noakes: I did read all the agreements and I just got so bogged down with remembering numbers. I will gladly sit down and write up a synopsis of all the various breaks that are available.

  Q850  Chairman: Presumably that is something you would look at?

  Mr Noakes: Most definitely. You would look at your project and try to figure out where is the best place to make it, initially for the film and then certainly for the money. Business people will be jumping as much as the creative people as to where we should be making this film. If you have a headline that Australia is giving you a 40 per cent tax rebate, these guys in America will not want to know the ins and outs. They will just start screaming at their underlings, —Go and find out. Tell me why I should not be making a film in Australia." That is their kind of mentality. They will read the headlines.

  Q851  Baroness Eccles of Moulton: Do we not always have the edge on technical skill?

  Mr Noakes: We do. In Prague they suffer but when we did Casino Royale we took something like 100 people out there from the UK. We were told we were mad and we did not need to take so many, but we wanted to. We wanted our comfort zone and we were still saving enough money to go there and have our comfort zone. Next time round, you could be taking fewer. The trouble is you go to a country that is cheap and you teach them and you will take on two guys that you may need to do one guy's job. The next time you go there, one guy can do the job. We are our own worst enemy. We are educating the rest of Europe. Hungary is massive at the moment and I believe Hungary is still cheaper than the UK.

  Q852  Chairman: These are some of the things we should look at. Mr Smith, do you have a last point?

  Mr Smith: That is the point. We have the best technical skills and we have the greatest talent, but we do not capture the commercial upside in this country. We must raise our sights higher. We are not happy with the idea of being consigned to being offshore facilities managers, either to Hollywood, Mumbai or Shanghai. We do need to build business capacity. Michael Kuhn is right.

Chairman: We are very grateful to you for coming today. It has been a very important piece of evidence and a rather good morning from that point of view. Thank you very much

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