Structured Finance

Asset-Backed Special Report

Finance for an Italian Library of Movies plc

Giovanni Pini David K. A. Mordecai (212) 908-0664 (212) 908-0771 [email protected] [email protected]

Interbank Offered Rate (LIBOR) plus 100 basis points Rating (bps) annually. Investors will receive principal repayments ITL475,000,000,000 Asset-Backed starting in June 2000 and terminating in March 2005. Floating-Rate Notes ...... A– The ‘A–’ rating is based on: Company Contact ➢ Strong legal and cash flow structures. Fin.Ma.Vi. S.r.l. ➢ Available credit enhancement, consisting of an in- Claudio Tinari Senior Executive Vice President itial overcollateralization of 88.4%, i.e. the present 39 6 324 721 value of the expected revenues from the commer- cial exploitation of the film library exceed the Underwriter amount of notes to be issued by more than 88%. Merrill Lynch International Starting in January 1999, the overcollateralization Dorian Klein can be reduced to 56%. Managing Director ➢ Debt service reserve of ITL29.34 billion, sized in- 44 171 867 3608 itially to cover three quarterly interest payments Pierluigi Berchicci and, subsequently, two controlled principal amorti- Associate zation amounts. The interest component of the 44 171 867 3608 debt service reserve has been funded on the closing day with issuance proceeds. The principal compo- Trustee nent will be funded by trapping excess cash flows Bankers Trustee Co. Ltd. between December 1999 and March 2000. ➢ Hedge agreement entered into with Merrill Lynch Summary Capital Markets Bank Ltd. (MLCMB), whereby Finance for an Italian Library of Movies plc’s (Films) MLCMB will cover interest expenses exceeding Italian lire (ITL) 475 billion asset-backed floating-rate 9.35% annually. notes represent the first securitization of future receiv- ➢ Cecchi Gori Group’s experience in distributing ables originating from an Italian movie library. Investors films in Italy. will be repaid from the proceeds resulting from the commercial exploitation of a library of films, the major- Investors will also benefit from: ity of which have already been released. In recent ➢ Termination events that will result in a fire sale of the securitizations of movies in the U.S., principal is ex- library and, thus, in an early repayment to investors. pected to be repaid from future revenues of films that ➢ A portion of issuance proceeds (ITL132.0 billion) held have not been released. in escrow (reserve account) to make payments to foreign producers under license agreements or to Coupon payments to investors will be made quarterly on cover production costs on the yet uncompleted films. the last day of March, June, September, and December and will be indexed to the three-month lire London

April 30, 1998 www.fitchibca.com Finance for an Italian Library of Movies plc

Legal Structure for all Cecchi Gori companies in the in exploiting the library. The mini- Similar to prior securitizations, this television broadcasting sector, such as mum guaranteed amount has been transaction uses a non-Italian issuing TMC and TMC2. set to cover quarterly interest and vehicle and the sale of the receivables principal payments on the notes. pursuant to Law 52 of 1991. Original to The following are the main legal fea- ➢ MLCMB, through its Milan branch this transaction is the asset type being tures of the transaction: (Merrill Lynch Milan), has pur- securitized (lease rentals from a library ➢ Finmavi and Tiger (the lessors) have chased the base rentals with full of movies), the sale of receivables with leased (15 years and 19 years, respec- recourse against the lessors in case full recourse, and the legal concept of tively) part of their businesses to Me- of default of Mediafiction. The sale the lease of a business. diafiction S.p.A. (100% owned by has been made in accordance with Finmavi), a special purpose company. Law 52 of 1991. The additional The Cecchi Gori Group Fin.Ma.Vi. ➢ Mediafiction will pay rental reve- rentals are still owned by the les- S.r.l. (Finmavi) is the holding com- nues to the lessors the base rentals, sors. The lessors, however, have pany for a group of companies in- determined by reference to the an- waived their rights to the additional volved in movie production and nual accounting revenues of Me- rentals in the event of losses by distribution. Finmavi and Cecchi diafiction; and the additional rentals, Mediafiction or if a termination Gori Group Tiger Cinematografica determined by reference to the cash event has occurred. The base rent- S.r.l. (Tiger) own a library of existing consideration received by Mediafic- als will be paid to MLCMB only Italian movies and licensed foreign tion in exploiting the film library. when all other prior payments (such movies, as well as the rights to movies The base rentals are payable quar- as payments due to licensors that currently in production. Finmavi is terly, while the additional rentals have not been covered by Finmavi fully owned by the Cecchi Gori family are payable annually. Each base or Tiger) in the relevant collection and owns 95% of Tiger. Finmavi is rental is subject to a minimum guar- period have been made, and the legally separate from Media Holding anteed amount payable irrespective sinking fund and debt service re- S.r.l., which is the holding company of the performance of Mediafiction serve have been replenished.

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➢ As a result of the sale, the money vency in the 12 months prior. In Others Structural Aspects due on the base rentals will be paid other jurisdictions, a lease contract ➢ The foreign licensors have con- directly by Mediafiction to Merrill can be terminated by the bank- sented, in writing, to the lease of the Lynch Milan without being com- ruptcy trustee of the lessor. businesses. Mediafiction and Films mingled with the assets of Finmavi ➢ The full recourse obligations of Italia can become the counterpart of or Tiger. Finmavi and Tiger do not jeopard- the licensors. Under circumstances ➢ Cash received as part of the addi- ize the true sale status of the trans- where the foreign licensors would tional rentals will only be released fer of the base rentals to Merrill otherwise have the right to termi- to Finmavi and Tiger in January of Lynch Milan provided that the re- nate the licenses by reason of the each year provided that the overcol- course is limited to the extent of the default or bankruptcy of Finmavi. lateralization ratio is greater than lease rentals deriving from the lease ➢ The licensors have agreed to cer- 1.56 times (x). The overcollaterali- to which each seller is a party (no tain restrictions on their ability to zation ratio is the ratio between: i) cross-guaranty). terminate the licenses upon a de- the most recent annual valuation of fault or insolvency of Finmavi. the film library; and ii) the out- Several features in the legal structure of ➢ Finmavi continues to be fully liable standing amount of the notes after this transaction would cause a fire sale to the licensors for the performance deducting the amount in the sink- of the film library protecting investors of the obligations with respect to ing fund, and the principal compo- from a potential deterioration in the the licensed films. nent of the debt service reserve. value of the collateral, in particular: ➢ Finmavi has entered into a hedge ➢ All the shares in Mediafiction have ➢ Films Italia S.r.l. (Films Italia), a agreement (the initial hedge agree- been pledged to Merrill Lynch Milan. special purpose company incorpo- ment) with MLCMB. Under the ➢ Merrill Lynch Milan has funded the rated in Italy and 95% owned by term of the hedge, Finmavi will pay acquisition with a LIBOR deposit Films p.l.c. and 5% by MLCMB, MLCMB the difference between received by Merrill Lynch Capital will be able to exercise a call option 9.25% plus a spread and the three- Markets Bank Ltd., Dublin (Merrill and substitute Mediafiction, as les- month lire LIBOR. Following a Lynch Dublin). see, under the leases and exploit bankruptcy of Finmavi, the initial ➢ Merrill Lynch Dublin has borrowed the library if the base rentals re- hedge agreement will be replaced the money from a special purpose ceived by MLCMB fall below the by another agreement between vehicle — Films. minimum guaranteed amount in Films and MLCMB (the second ➢ Films is an Irish public company any collection period, the overcol- hedge agreement). The terms of which has issued the rated notes in lateralization ratio falls below 1.56x, the hedge provide for films to pay a the Euro markets and has agreed to and Finmavi is declared bankrupt. fixed rate of 7.08% annually to limit its recourse to Merrill Lynch ➢ Merrill Lynch Milan can then sell MLCMB in exchange for the three- Dublin to the amounts received by the base rentals, and Films can sell month lire LIBOR plus a spread of Merrill Lynch Dublin from the base shares of Films Italia in the open 1% annually. In the event of an early rentals or recovered with respect to market. Two independent valu- repayment of the notes, Films must the security pledges. ations of the library must be ob- pay a breakup fee to MLCMB. The ➢ The notes issued by Films pay a tained before disposal. payment of the breakup fee, how- floating interest rate quarterly in- ➢ Following the insolvency of Fin- ever, is subordinated to payments dexed to three-month lire LIBOR. mavi and/or Tiger, or the occur- due to investors. The final legal maturity is March rence of other termination events, 2005. There will be a two-year lock- Merrill Lynch Milan can exercise its The obligations with respect to the licensed out period. Principal repayments to voting right with respect to the films for which Finmavi is liable consist of: investors will begin in June 2000 shares of Mediafiction and replace ➢ The minimum guaranteed payments and will be made quarterly in management. (upfront fees due to the U.S. studios). amounts of ITL23.75 billion. ➢ Overages, i.e. payments based on Merrill Lynch Milan has the right, after the revenue stream generated by Fitch IBCA received an opinion from seven years, to force the sellers to reac- the films. the Italian legal counsel stating that: quire the base rental streams. The sell- ➢ Nonmonetary obligations, such as ➢ A lease of a business will survive the ers also have the right, after seven respecting blackout periods and bankruptcy of Finmavi and Tiger years, to force Merrill Lynch Milan to various reporting and editing re- provided that the lessee was not sell back the rental stream. quirements. aware of the lessors’ potential insol-

Fitch IBCA, Inc. 3 Finance for an Italian Library of Movies plc

Fitch IBCA believes that the risk that On each interest payment date, mon- Library Inventory the licenses will be terminated due to eys will be withdrawn from the transac- No. of Films unfulfilled obligations is minimal be- tion account in the following order: Pre-1995 Library cause: approximately ITL132.0 billion ➢ To pay any amount due to the licen- Italian Productions 212 of the proceeds from the issuance of the sors and not already paid out of the Pre-1995 library notes have been set aside on the closing Mediafiction account. Non-Italian Productions 971 day to make the required minimum ➢ To pay to Films amounts due under Post-1994 Releases guaranteed payments; Houlihan Lokey the loan notes. Italian Productions 31 Howard & Zukin (Houlihan), an invest- ➢ To pay to MLCMB amounts due Post 1994-Non-Italian ment bank with expertise in the movie under the initial hedge agreement. Productions 81 industry, estimates overage payments ➢ To replenish the debt service ac- Unreleased Films at approximately ITL8.9 billion with count. Completed and Delivered respect to the entire library (since over- Italian Films 3 ages are a function of the revenue Any excess will be deposited in the Completed and Delivered stream, a sharply reduced value of the sinking fund account. Non-Italian Films 58 Italian Films in Production 7 library in a stress scenario, such as the Non-Italian Films in ones used by Fitch IBCA (see page 5), Money paid by MLCMB from the Production 49 would also result in lower overages due transaction account to Films will be de- Italian Films not in to the studios; and, finally, the nonmone- posited in the operating account to- Production 4 tary obligations are minimal and can be gether, with any amount due by Non-Italian Films not easily performed by Mediafiction in the MLCMB under the second hedge in Production 4 event of a bankruptcy of Finmavi. agreement following the insolvency of Italian Films 257 Finmavi. On each interest payment Foreign Films 1,163 Payments Priorities date, Films will make payments out of To ta l 1,420 All revenues generated from the ex- the operating account in the following ploitation of the film library will be paid order: into the Mediafiction account. On any ➢ To pay fees due to the trustee. acquires all the distribution rights (free quarterly interest payment date, mon- ➢ To make payments due to the agent television, pay television, video, theateri- eys will be withdrawn from the account bank. cal, and ancillary) for each movie. The to pay: ➢ To pay interest on the notes. terms of the licenses are usually five to ➢ Any amount due to the licensors. ➢ To pay principal on the notes. 15 years. For the Italian movies owned ➢ Operating expenses of Mediafiction. ➢ To pay any amount due to MLCMB by the Cecchi Gori Group, Mediafic- ➢ Tax liabilities and distribution under the second hedge agreement. tion, as lessee, has unlimited distribution costs. rights, including distribution rights out- ➢ Fees due to the cash manager and Movie Library side Italy. the tax manager and for updates in The film library leased to Mediafiction the film library evaluation. consists of a mixture of Italian films Houlihan values the library on an ongo- ➢ Base rentals into the transaction ac- (generally produced by the Cecchi Gori ing basis, net of minimum guaranteed count. Group), non-Italian films for which payments, production costs, and over- Cecchi Gori has distribution rights, and ages, at approximately ITL693 billion. Also, on Jan. 10 of each year, following films in production or not yet in produc- Since ITL68.1 billion of minimum the update in the film library evalu- tion (see table above right). guarantees were paid to the U.S. licen- ation, excess cash can be withdrawn to sors out of gross proceeds on the closing pay additional rentals to Finmavi. The Cecchi Gori Group acquires, from day, and ITL132.0 billion for minimum the major U.S. studios, only the free guarantees due in the future and movie In the transaction account held in television rights that have been leased production costs have been deposited MLCMB’s name, there will be depos- to Mediafiction. All the U.S. major stu- in the reserve account, the expected ited base rentals paid out of the Me- dios have their own video and cinema cash flow from the movie library avail- diafiction account and any amounts distribution channels for Italy. From able for payments to investors is esti- payable by MLCMB to Finmavi under the independent studios, Cecchi Gori mated at ITL895 billion. the initial hedge agreement.

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Cecchi Gori Group bution business is 38%. The group is ficient number of observations at The Cecchi Gori family has been in- the leader in home video and is a major the tail of the simulated cash flow volved in the movie business for 50 supplier to free and pay television sta- distributions). years (first with the late Mario Cecchi tions. ➢ The reporting of the sample vari- Gori, now with his son Vittorio Cecchi ability in the simulation over re- Gori and his wife). Some of the most Stress Scenarios peated model runs. famous recent Italian movies, such as In appraising the fair market value of ➢ Worst case (1%) and pessimistic ‘Il Postino,” “Mediterraneo,” “IL Ci- the film library, Checchi Gori engaged scenarios as described in the follow- clone,” and “Fuochi D’ Artifilio, ”were Houlihan Lokey as a valuation consult- ing section. produced by the Cecchi Gori Group. ant. Houlihan Lokey has specified a Cecchi Gori’s activities in the film in- “monte carlo” simulation model that Due to the specialized nature of film dustry are conducted through Finmavi, computes long-run estimates on simu- library assets, Fitch IBCA engaged an the largest movie producer and dis- lated cash flows accruing from film independent consultant to verify its tributor in Italy, and its subsidiaries. rights included in the library. The cash conclusions. In conjunction with its Finmavi’s upper management is very ex- flows are net of remaining costs associ- consultant, Fitch IBCA also reviewed perienced and has been with the com- ated with acquisition, production, and the level of the overages and valuations pany for several years. Some members of release of all titles. Checchi Gori pro- of individual titles in the library and senior management are now employed or vided information on costs. Probability evaluated the economic and market as- act as consultants to Mediafiction. distributions assumed in the model are sumptions made in the valuation. estimated from aggregated industry In recent years, the Cecchi Gori family data on film distribution in adjacent Fitch IBCA has applied various eco- has also expanded into television markets. The Houlihan Lokey base nomic and credit stresses to the portfo- broadcasting by purchasing Telemon- case simulation generated 1,000-5,000 lio of films to calculate an appropriate tecarlo and Videomusic. The television random samples for each cash flow fore- credit enhancement level for an ‘A–’ station now broadcasts two channels, cast. The Houlihan Lokey base case es- rating on the notes. One of the most TMC and TMC2, which, together, timates discounted cash flows at rates stringent stress scenarios involves the have a 3% market share. The television ranging from 8%–11%. following assumptions: station and its affiliates are controlled by the Cecchi Gori family through Media Fitch IBCA analysts evaluated the For titles that have already been released Holding and are legally separate from the structure and specification of the theatrically in Italy prior to and after 1994: family’s activities in the film industry. Houlihan Lokey monte carlo model: ➢ Video and pay television sales reve- the appropriateness of the model as- nues were cut by 50% from the es- The Cecchi Gori Group’s position as sumptions, the adequacy of the aggre- timates made by Houlihan. the largest film producer and distribu- gated data as a proxy for the library ➢ The retention rate for free televi- tor in Italy benefits from, among other performance, and the convergence of sion was lowered to 53.7% from things: obtaining higher revenues in the model estimates to the theoretical 70% for A titles and to 43.5% from distributing American movies in Italy long-run estimates for the library. In 50% for non-A titles to reflect the by bundling them with its own success- general, Fitch IBCA found the Houli- 1% percentile case from a simula- ful Italian movies; offering licensors a han Lokey model approach to be rea- tion run of 10,000 iterations. distribution infrastructure that encom- sonable and consistent with standard ➢ Video (manufacturing) costs cut passes a complete range of media (thea- practices for monte carlo approximations. proportionally. ters, home video, and television); the ➢ Cash flows discounted by 17.5%. fact that its main competitor, Mediaset, As the result of its model validation only recently started to produce movies; review, Fitch IBCA made the following For titles that have not yet been re- and making quick decisions, whereas requests of Houlihan Lokey: leased theatrically in Italy: Rai, the Italian government-owned tele- ➢ An increase in the number of sam- ➢ The ratio of box office to acquisi- vision network. ples generated by the simulation to tion costs for non-Italian films was 10,000 to account for adequate lowered to 61% from 100% to re- Currently, the Cecchi Gori Group’s model convergence and statistical flect the 1% percentile case from a market share in the theatrical distri- significance of the estimates (a suf- simulation run of 10,000 iterations.

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➢ The ratio of box office to acquisi- that have been released theatrically It is important to note that the afore- tion costs for Italian films was low- and 75% for titles that have not mentioned assumptions were applied ered to 87% from 188% to reflect been released theatrically. immediately and for every year in the the 1% percentile case from a simu- ➢ Acquisition/production costs were future, even though the Italian econ- lation run of 10,000 iterations. kept constant. omy is not currently in a recession and ➢ The ratio of video receipts to theat- ➢ Theatrical prints and advertising any recession is unlikely to last more rical rentals for slates of 50 was low- costs were kept constant at ITL500 than three years. ered to 10% from 30% to reflect the million. 1% percentile case from a simula- ➢ Residual costs were dropped pro- The motivation for applying such ex- tion run of 10,000 iterations. portionally to the new theatrical treme stresses is to account for low- ➢ The per film allocated free television performance levels. probability and severe adverse industry receipts for slates of 25 was lowered ➢ Video (manufacturing) costs were conditions not observed historically. to ITL1.07 billion from ITL1.4 bil- dropped proportionally to the new lion to reflect the 1% percentile case video revenue levels. Under such a scenario, the value of the from a simulation run of 10,000 it- ➢ Overages were cut 75% to reflect library, net of overages but gross of the erations. lower revenues. minimum guarantees and production ➢ Pay television and foreign sales ➢ Cash flows were discounted by 20%. costs covered by the escrow account, is revenues were cut by 50% for titles estimated at ITL503.4 billion.

Copyright © 1998 by Fitch IBCA, Inc., One State Street Plaza, NY, NY 10004 Telephone: New York, 1-800-753-4824, (212) 908-0500, Fax (212) 480-4435; Chicago, IL, 1-800-483-4824, (312) 214-3434, Fax (312) 214-3110; London, 011 44 171 638 3800, Fax 011 44 171 374 0103; San Francisco, CA, 1-800-953-4824, (415) 955-0529, Fax (415) 955-0549 Barbara A. Besen, Publisher; John Forde, Editor-in-Chief; Madeline O’Connell, Director, Subscriber Services; Jason H. Kantor, Manager, Publishing Technology; Nicholas T. Tresniowski, Senior Managing Editor; Diane Lupi, Managing Editor; Jennifer Hickey, Andrew Simpson, Editors; Jay Davis, Martin E. Guzman, Paula Sirard, Senior Publishing Specialists; Harvey Aronson, Publishing Specialist. Printed by American Direct Mail Co., Inc. NY, NY 10014. Reproduction in whole or in part prohibited except by permission. Fitch IBCA ratings are based on information obtained from issuers, other obligors, underwriters, their experts, and other sources Fitch IBCA believes to be reliable. Fitch IBCA does not audit or verify the truth or accuracy of such information. Ratings may be changed, suspended, or withdrawn as a result of changes in, or the unavailability of, information or for other reasons. Ratings are not a recommendation to buy, sell, or hold any security. Ratings do not comment on the adequacy of market price, the suitability of any security for a particular investor, or the tax-exempt nature or taxability of payments made in respect to any security. Fitch IBCA receives fees from issuers, insurers, guarantors, other obligors, and underwriters for rating securities. Such fees generally vary from $1,000 to $750,000 per issue. In certain cases, Fitch IBCA will rate all or a number of issues issued by a particular issuer, or insured or guaranteed by a particular insurer or guarantor, for a single annual fee. Such fees are expected to vary from $10,000 to $1,500,000. The assignment, publication, or dissemination of a rating by Fitch IBCA shall not constitute a consent by Fitch IBCA to use its name as an expert in connection with any registration statement filed under the federal securities laws. Due to the relative efficiency of electronic publishing and distribution, Fitch IBCA Research may be available to electronic subscribers up to three days earlier than print subscribers.

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