What are the segments in the Indian film industry?
The Indian entertainment industry has many segments. There is this software segment comprising films, music and programmes. The hardware segment includes studios and other services that support the creation of entertainment software. The services segment encompasses distribution, exhibition, film procurement and banking services that support the industry. Finally, the front-end media segment which includes film magazines, video cassettes and films which act as an interface between the entertainment industry and the audience.

Why is it that the Rs 8,000 crore-plus Indian film industry does not have many publicly-held corporate entities? Why are there no rated debt programmes?
It is not correct to say that there are no rated debt programmes. All depends on how you define the Indian entertainment industry. If the definition includes media companies, studios, service providers and financiers, then there are quite a few listed and unlisted corporate entities around. There are companies such as Bennett & Coleman which have been rated. The fact is that quite a few ancillary and associated business units, which are very much a part of the Indian film industry, are eminently ratable.

Companies such as the Gramophone Company of India, which owns the popular HMV brand could be rated. Come to television, there is UTV. Sadly, the films and cinematography segment does not have many rated corporate entities.

How do you explain this state of affairs in the Indian entertainment industry?
Age-old customs are still being followed. There is this practice of sourcing finance from traditional sources. That is why institutional or capital market funding are not active in the industry. Specialised film financiers have become dependable sources of finance for the Indian film industry over the years because they understand the dynamics of the industry better than anyone else. They are doing a pretty good job, though they are usurious.

Anyway, the system is working well. Given the speculative nature of the business, people who can provide capital upfront are needed.

How do you look at the Indian film industry?
As a rater, I would say stakes in the Indian film industry are disproportionately high compared to the returns. To produce films, one has to look at the software, hardware and services aspects. On the services front, there are many business units which directly support film production but are not necessarily speculative in nature.

Consider providers of hardware services, for instance. Their viability is not dependent on the outcome of a film. UTV's audio and mixing laboratories, for instance, charge a fixed amount. As long as its business practices are sound, collects payments on time and its fee level is good, it fits into our rating paradigm. Ramoji Studios is a good example of what could be ratable. It is totally disengaged from the speculative part of the business. All we raters have to do is to figure out the viability of the business by itself. Only software is highly dependent on public appeal and has an element of speculation.

How do you look at the current craze for corporatisation in Bollywood?
Obviously, there are pressures from many quarters. Strong media companies such as Sony Entertainment, TV 18 and NDTV have brought in enough corporatisation. Though they are not into actual film production, their activities overlap.

Secondly, convergence of entertainment media is having a bearing on the entire entertainment industry and making the market global. Hence, players in the industry need to have a global paradigm and the ability to cater to an audience which is increasingly becoming global in terms of taste.

In fact, these trends are emerging opportunities for the Indian film industry. For instance, Rajnikant starrers are major success stories in Japan. Hence, there is a need for novel ways to be able to address these emerging audience segments properly.

Thirdly, tax authorities have become more vigilant which has made some traditional ways of paying artistes increasingly difficult. The Indian film industry is under glare with more and more people are looking at it. So, there is a greater need for formal accounting and financing methods.

Thanks to increasing corporatisation,formal sources of financing are opening up for the industry. The fact that companies such as Mukta Arts and Cinevista are going public proves that there is a section within the investing public interested in these ventures. Corporatisation is both an opportunity and a necessity. Unless you have formal sources of finance, you will not be able to show people your accounts. It is good that the vicious cycle is breaking.

What implications does corporatisation have for the Indian film industry?
It is an evolutionary process. Going forward, we are sure to see the involvement of formal sources of finance including the capital markets, both on the equity and debt fronts. The question is how soon the two sides, the financial institutions and the industry, will get savvy. Now, there is willingness and a clear move towards interdependence.

How does Mukta Arts fit into your rating structure?
It is not a question of a particular company fitting into our rating paradigm. We can rate anything. But a typical film making company, which is going from one project to another, does not lend itself to the traditional ways of trend or track record analysis. Usually, an element of uncertainty which is associated with of a project. Looking at it from a debt-rating perspective, a certain part of the borrowed money has to be paid back on a definite date. But there are distributors and exhibitors and such several levels of uncertainty where quantum and timing of the cash flow are concerned.

There is no scientific method of evaluating either of them. The project may be a great success in terms of the overall cash flow it generates, but even the promoter cannot predict up-front what his expected monthly cash flow will be. There is a mismatch and this might result in a rating that does not truly reflect the debt's safety level.

How are the entertainment companies rated overseas?
Internationally, I do not think movies are debt-financed. The difference: studios making films are corporations and have steady cash flow streams from past projects, properties and several other businesses. An uncorporatised entity, on the other hand, has to depend on a single project for its cash flow recovery. It does not have a base cash flow which means risk levels go up substantially from the rater's perspective.

Back home, what about the Zee group which has a sizable presence across the entire value chain?
Based on public knowledge, I can say that the group has all the elements bundled into one. It has a regular cash flow. The group is into activities that are actually project driven where cash flows are expected to be more erratic and unpredictable. But, the group has a clear and defined cash flow. If the group is getting into film making, analysts will have to figure out their commitment to the project, how it compares with their cash flows, what the nature of funding is - equity, debt or both, what is the mix, so on and so forth.

They also need to look at whether steady cash flows are adequate to cover debt-servicing, not only past debt but the project debt too. Structuring is also important. If it is a project-related debt, not dependent on the overall cash flow, uncertainty levels would obviously increase.

Are you then strongly recommending Indian entertainment industry players increase their presence across the value chain?
Yes. The first step is to diversify the cash flows. They should have steady, predictable and growing cash flows. These cash flows should be insulated from the speculative nature of films or any other creative project that is being undertaken.

Secondly, they should be well-funded with equity to be able to absorb losses from other projects. Thirdly, they should have a variety of projects happening simultaneously so that their exposure to a particular project is minimised.

Fourthly, they should have steady revenues in terms of royalty as part of the engagement, which can flow back into the company. This should enable the players capture cash flow streams of their successful projects. It is better to have royalty payment agreements so that the players can get royalty for years even after a film is complete.

A steady cash flow of this kind would allow the players borrow against it. Interesting deals have taken place internationally where people have borrowed against future receivables such as sale of music albums.