Looking solely at the numbers, the Hong Kong film industry had a tough time last year, with a further decline in the number of films produced to a record low of 50, according to figures from the Motion Picture Industry Association (Mpia). Their combined share of the Hong Kong box office also contracted to just 23%, compared to 31% the previous year.

This picture might not have been so gloomy if Ang Lee's Lust, Caution, which grossed $6.2m (hk$48m) locally, had been classified as a Hong Kong film. But although it had a Hong Kong producer in Edko Films' Bill Kong and was partially shot in the territory, it was officially a co-production between the US, China and Taiwan.

Meanwhile, only two Hong Kong productions - Peter Ho-sun Chan's war epic The Warlords and Derek Yee's drugs thriller Protege - grossed more than $2m (hk$15m) at the local box office last year. Moving into 2008, the outlook has brightened with the Chinese New Year opening of Stephen Chow's CJ7, which had grossed $6.5m (hk$50.6m) at the time of going to press. Kung Fu Dunk, starring Taiwanese heart-throb Jay Chou, also put up a good fight over the holiday period, grossing $1.1m (hk$8.6m).

Looking ahead, several big Hong Kong co-productions are set for release in coming months, including Tony Siu-tung Ching's An Empress And The Warriors; Three Kingdoms: Resurrection Of The Dragon, starring Andy Lau and Maggie Q; and Tsui Hark's romantic drama Missing. But despite its Hong Kong producer and director, the biggest upcoming release, John Woo's $75m (hk$584m) Red Cliff, is a co-production between the US and four other Asian territories. The financing and talent behind many of the current Chinese-language blockbusters highlight the changing nature of the Hong Kong film industry. Although this tiny territory still plays a pivotal role in Chinese-language film-making, few films are being made solely by Hong Kong talent for a Hong Kong audience. Now the main market is mainland China, and talent and finance could as easily come from other Chinese-speaking territories, Los Angeles and beyond.

The downside to this focus on big-budget films for the mainland market is a decline in low to medium-budget films and the loss of creative freedom due to mainland China's censorship restrictions. 'If you're a Hong Kong producer, then Hong Kong is not your main market - there's bigger money in China,' says Mpia chief executive Woody Tsung. 'Investors are cautious and only want to put their money into big co-productions like The Warlords and Red Cliff.'

Recognising the pitfalls in a market that leaves no room to groom new talent, the Hong Kong government launched the Film Development Council (FDC) last April to support smaller films via a $38m fund (see opposite). 'The mega films are achieving good box office but medium-budget films are not performing,' says Media Asia CEO John Chong, who sits on the fund's panel of examiners. 'This is a problem the government realises it needs to solve. Independent producers are important for the industry.'

Hong Kong producers looking beyond China to the international market are also having a challenging time. Overseas buyers are tiring of the recent wave of big-budget costume epics and sales executives observe it is becoming harder to make international pre-sales on Chinese-language films. 'The market is changing - it's not like the old days when you could sell just on the genre - now you have to make something really unique,' says Chong.