Skillset's Inside Pictures is a unique, intensive training programme produced by Qwerty Films. Supported by the National Lottery through the Skillset Film Skills Fund, It provides an inside picture of the international business of making movies.  For Further information click here Inside Pictures

Author:  Mark Devereux Senior Partner, Olswang

Elements of a Contingent Compensation (Participation) Deal

A contingent compensation deal is one in which a participant in the film receives a percentage of the revenues made by that film in addition to, or in lieu of, their fixed payment. There are four main elements that might have to be taken into account in determining the payment due under such schemes:  

• distribution and sales fees
• distribution expenses
• cost of production
• gross receipts

Before entering into a contingent compensation deal, it is imperative that all parties understand precisely the terms of that deal and that the contracts are crystal clear and agreed by all parties.

Gross Receipts

Gross receipts for a film are comprised of:

• net theatrical rentals (ie. box office less tax and the exhibitors' share)
• non-theatrical (eg. planes, ships)
• video rental and retail (either a royalty or a distribution deal - see below)
• video on demand, pay TV and pay per view and free TV
• ancillaries (eg. music publishing, books, merchandise)

US Studio gross will usually exclude revenues from sequels, remakes, stage shows or theme parks and any revenues remitted back to the studio from sale and leaseback deals.

For video receipts the studio can put in place a royalty deal, in which they will account for around 20 - 30% of gross revenues derived from sales of videos for the rental market and 10 - 20% from sales of videos for the retail market, or a distribution deal, under which the studio retains 100% of the revenues and charges a distribution fee and recovers its expenses. Royalty deals are most common, but some stars are now able to negotiate on the basis of distribution deals which can be more lucrative for them. Under a royalty deal, it is important to check the basis on which the royalty is being calculated; whether any distribution fees are being charged on the royalty itself; and whether any distribution expenses are being deducted. Royalty deals tend to work out better for low performing films, and distribution deals for better performing films.

Distribution and Sales Fees

The distribution fee is the amount that the company distributing the film charges for its services and to cover its overheads. They vary in different territories, but tend to be between 30 and 40% of net theatrical receipts and from 25 to 40% for television sales. Sales fees, paid to sales agents for selling the film to distributors in different territories, range from 5 to 15% in the US to anywhere from 10% to 30% in the rest of the world.

Distribution Expenses

These are the direct expenses incurred by the distributor in releasing the film. They include:

• prints and materials
• advertising and publicity (usually uprated by a 10% advertising overhead when distribution is handled by a US major)
• re-editing/foreign dubbed versions
• taxes (eg. sales tax)
• currency conversion, collection and remittance costs
• trade association dues
• residuals/use fees
• shipping and delivery costs
• sub-distributors expenses

Recent MPAA figures report that an average approximately 90% of P & A expenditure goes on advertising, with just 10% on prints. The 10% advertising overhead usually charged by the studios is intended to cover the costs of running their advertising departments.

Cost of Production

The US studio model for calculating the cost of production is the direct cost plus an overhead (generally calculated at 15% of the direct cost). The direct cost includes the actual cost of production plus any third-party participations payable up to the point of recoupment. They will usually also charge an amount for interest on the direct cost and the overhead.

Contingent Compensation in Talent Deals

There are three traditional forms of contingent compensation:

• net profits
• adjusted gross
• deferments and bonuses

Net Profits

(May also be referred to as "net proceeds", "defined proceeds" or "contingent proceeds".)

Net profits are defined as: Gross receipts remaining after deduction/recoupment on a continuing basis of:

• distribution fees
• distribution expenses
• cost of production (including overhead and interest)
• deferments

Once the level of net profits has been determined, it will usually be split 50:50 between the distributor and the producer, but the producer will have to bear the cost of any third party participations. A hard or soft floor may be applied to these terms to ensure that the producer does not have to give away all of their share to other parties. A hard floor defines the minimum amount that the producer will receive; a soft floor indicates a level below which any further payments to third parties will be split between the distributor and producer in agreed proportions. Producers and directors might also be liable for an over-budget addback, under which a further amount equal to any overspend is added in to the cost of production (which itself will include the overcost) when calculating the producer's or the director's contingent compensation. Their earnings may also be cross-collateralised with any other projects that they have made for the same distributor - ie. losses on one film might be offset against profits on another before the producer sees any upside.

Adjusted Gross

Adjusted gross deals are generally only paid to top talent and are less common in the UK. Adjusted gross means gross proceeds (ie. the monies actually received by the distributor (not gross box office)) minus "off-the-top" expenses (residuals, trade and industry dues, taxes, remittance and conversion charges, and any costs of collecting and checking receipts).

There are different types of adjusted gross deal. First dollar gross means an adjusted gross participation payable from the first dollar of receipts. In first dollar gross deals it is usual for any fixed compensation payable out of the budget of the film to be treated as an advance against the talent's first dollar gross participation. Gross After Break Even defines a deal where the talent earns a share of adjusted gross revenues after a specified break even point has been reached. The break even figure used is usually the point at which gross receipts equal the total of full distribution fees plus all expenses (including advertising overheads and residuals) and the cost of production. Alternatively, a cash break even figure can be used which may typically involve the part at which the film recoups using a reduced distribution fee.

Deferments and Bonuses

Bonus payments can be made to talent when certain target income figures are reached, based on domestic and/or international Box Office. These can sometimes be expressed in terms of a bonus to be paid after the film's negative cost has been covered a certain number of times by Box Office receipts. Bonuses can also be agreed for major award nominations or successes. Deferments are fixed payments that are made after certain financial milestones have been achieved - for example after revenues have reached a certain break-even point or as an agreed additional payment to the talent immediately prior to net profits.

Tailoring Contingent Compensation to the Financing Structure

Contingent payment structures will differ between studio and independent deals. Studios have the advantage of being at the centre of the distribution chain and can exert control over these revenue flows. Independent producers are up to three steps removed from the revenue streams and therefore are less well placed to offer shares of those revenues. The golden rule is never to commit to pay talent revenues over which you do not have any control. The other partners with whom the independent producer must operate (eg. local distributors or sales agent) are unlikely to want to pick up liability for contingent payments offered by the producer.

Typical Talent Deals

Writers and underlying rights owners: 2.5 - 5% of net profits (top writers will be able to negotiate better terms than these).

Directors: the majority of directors will receive around 5 - 10% of net profits. A-list directors may negotiate gross after break even deals while the real top names will receive a first dollar gross participation.

Actors: principal cast will usually receive a small net profit participation plus Box Office and Award bonuses. A-list talent generally receive gross after break even deals. First dollar gross deals are only available to that handful of actors who can really open a film.

Producers: most producers receive 40 - 50% of net profits with third party participations to talent borne out of their share. Executive producers may secure a small proportion (c. 2.5%) of net profits.

Top Tips

• Every market is different - marketing has to be tailored to each territory.
• Producers must be absolutely clear about the key elements of a contingent compensation deal: gross receipts; distribution and sales fees; distribution expenses; and the cost of production.
• These terms must all be made crystal clear in any contracts.
• Never commit to pay contingent compensation based on revenues over which you do not have control unless you pass on the obligation to pay to the person who does control them.