There
are many formulas for home video deals, but most fall within three patterns.
The first deal allows the distributor to retain a percentage of Gross Receipts
as a distribution fee, and to recoup certain designated marketing expenses from
film revenues, with the remaining balance, if any, paid to the filmmaker. I
will call this formula a “standard distribution deal,” although there is
nothing standard about it except for the fact that these deals calculate the
distributor’s fee as a percentage of Gross Receipts. Another type of deal,
sometimes referred to as a “50-50 net deal,” allows the distributor to first
recoup its expenses from Gross Receipts off the top, and then share the remaining
amount 50/50 with the filmmaker. A third type of deal is known as a “royalty
deal,” where the filmmaker gets a percentage of the wholesale price of every
DVD sold. The percentage is negotiable, but often is in the range of 20-25%. Here,
all expenses incurred are irrelevant in calculating the filmmaker's share
because they are borne by the distributor.
Which type of deal is best for a
filmmaker? That depends on how much revenue is generated, the amount of
expenses and whether they are capped, and the size of distribution fees. Let us
consider three different scenarios.
First, suppose $1,000,000 is generated
in Gross Receipts from sales and rentals of DVDs. Gross Receipts for the home
video media are generally defined as the
wholesale revenues received, less any returns. If the suggested retail price of
a DVD is twenty dollars, the wholesale price would be about half or ten
dollars. However, prices are negotiable and Wal-Mart is known to drive a hard
bargain and pay substantially less for DVD’s.
Under a standard distribution deal with
a 25% distribution fee and recoupment of $100,000 in expenses, a filmmaker
would receive $650,000. Under a 50/50 net deal, with the same Gross Receipts and
cap on recoupable expenses, the filmmaker would receive $450,000. Under a
royalty deal with a 20% royalty, the filmmaker receives $200,000. Clearly the
standard distribution deal appears to be the better choice.
But now suppose the film generated $175,000
in Gross Receipts. With the same distribution fee and expenses, the filmmaker
receives $31,250 under the standard distribution deal, $37,500 under a 50/50
net deal, and $35,000 under a royalty deal. In this case, the 50/50 net deal delivers
the most revenue to the filmmaker.
Now, consider a third scenario with only
$100,000 in Gross Receipts and the same distribution fee and expenses. Here,
the filmmaker receives zero under either a standard distribution deal or the
50/50 net deal. However, under a royalty deal, the filmmaker receives $20,000.
The fact that distribution fees and expenses now outweigh Gross Receipts is
irrelevant in a royalty deal, because the filmmaker gets 20% of the wholesale
price, no matter the extent of fees and expenses incurred. Moreover, under a
royalty deal, there is little room for a distributor to engage in creative
accounting. Once you determine how many units have been sold, and determine their
price, a simple calculation reveals what the producer is due. Many creative accounting disputes concern the
deduction of expenses which is irrelevant in a royalty deal, since expenses are
not counted in calculating the producer’s share of revenue.
Consequently, the best choice for the
filmmaker depends on a number of factors especially how much revenue is
generated; which is unknown when the deal is negotiated. Since none of these
types of deals is always best, it is important for the filmmaker to pencil out
the numbers before deciding which formula they want. Most deals are more complicated to assess
because they cover multiple media, and the distributor’s fee varies by media (i.e., 35% for theatrical, 25% for
broadcast television). Moreover, domestic distributors usually insist on cross-collateralizing
expenses among media. Thus, if there is a loss on the theatrical release but a
net gain on television, then the revenue and expenses are pooled. This enables
the distributor to recoup its theatrical loss from television revenue. Particular
care must be taken when the home video arrangement is a royalty deal that does
not allow deduction of expenses. These royalties should not be offset against expenses
incurred in other media.
DVD’s are sold on consignment, meaning
the buyers can return any product for a 100% refund. Sometimes large numbers of
DVD’s are returned. Therefore, most distributors insist on holding back some
revenues as a reserve to make sure they do not pay the filmmaker a share of
revenue based on sales that are returned. DVD sales are dominated by mass merchants like
Wal-Mart, Best Buy, and Target. However, only a few companies have a direct
relationship with Wal-Mart, therefore the other distributors have to go through
an intermediary such as Anderson Merchandisers.
One should also keep in mind that while
home video sales have been declining VOD sales have grown. Some home video
companies manufacture a limited number of DVD’s, or none at all, and focus on
distributing the film digitally through NetFlix, Amazon, and other outlets.
Without the cost of manufacturing, these deals can be quite profitable.
However, one has to be careful in licensing rights to avoid conflicts and
maximize revenues. The filmmaker may only want to grant VOD rights on a
non-exclusive basis. Moreover, filmmakers can often negotiate with a home video
company to retain the right to sell their film directly to the public from
their own website.
Let
me offer one final piece of advice. Filmmakers should never sign a short form
deal memo to be followed by a long form contract. Once you sign a short form,
you may have a binding contract with the distributor. When the long form
arrives, if you do not like some of the provisions, you may have a big problem.
If the distributor refuses to make the changes you want, you have an agreement
but not on the terms you want. Your
options are not good. You cannot easily disavow the deal memo, yet you may not
want to proceed without certain terms in the long form. A short form deal memo
is short because many terms are left out. By agreeing to the short form, you
are agreeing to a deal without knowing all its terms. Therefore, you should insist
on going directly to a long form. If you are unable to work out all the terms
to your satisfaction, you can walk away with all your rights unencumbered. Many
distributors try to get filmmakers to commit to a short form deal memo because
it is easier to negotiate. Nonetheless, if and when the long form arrives, the filmmaker
cannot just walk away. The short form often does not include such provisions as
a detailed audit and accounting clause. If there is a dispute between the
filmmaker and a distributor, a judge will not insert terms that he/she thinks
are fair. The contract is only those terms agreed upon by the parties.
About Mark Litwak: Mark Litwak is a veteran entertainment attorney and
Producer’s Rep based in Beverly Hills, California. He is the author of six
books including: Reel Power: The Struggle for Influence and Success in the New
Hollywood, Dealmaking in the Film and Television Industry, Contracts for the
Film and Television Industry, and Risky Business: Financing and Distributing
Independent Film. He is the author of the CD-ROM program Movie Magic Contracts,
and the creator of the Entertainment Law Resources website at www.marklitwak.com.
He can be reached at law2@marklitwak.com
Mark will be
speaking about distributing independent film at the SPADA (Screen Production and Development Association) annual conference
November 22, 2012 in Wellington, New Zealand.
