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"Profit Split Deals”: A Recent Alternative to the Traditional Record Deal
by Bart Day Entertainment Attorney
One of the recent changes in the music business, particularly in the past two or three years, is the rapidly increasing use of so-called “profit split” deals as an alternative to the traditional type of record deal.
This is particularly true in the case of indie label deals (as opposed to major label deals). That is not to say that major labels aren’t doing “profit split” kinds of deals, but most often they are only done with very established artists.
With these profit split deals, which are basically a kind of joint venture, the basic idea is that the net profits will be split (in most deals, 50-50) after all expenses are paid, whereas in the case of the traditional record deal, the artist is paid on a royalty basis, with the typical royalty in the range of 12 to 15% (of the retail price).
Profit split deals can be attractive to labels because the label doesn’t have to pay the artist anything (including, usually, mechanical royalties) until all costs have been recouped from record sales by the label. This is usually not the case with the traditional type of record deal.
Profit split deals can also be attractive to artists, but obviously for different reasons. For one thing, if record sales are quite substantial and the costs involved are reasonable in comparison, the artist may well come out significantly better on total sales with a profit split deal than the traditional record deal. Also, the idea of a 50-50 split of net profits seems inherently fairer and more comprehensible than the voodoo economics of the traditional record deal. Plus, some artists prefer the general feel of a profit split situation, which can feel more like a partnering arrangement and a more collaborative relationship with the label than is typically the case with the traditional artist-label relationship.
All of that having been said, there are some subtle financial issues under the surface with these profit split deals, and a result, it is not always easy to determine in advance whether a profit split deal will in fact be more or less advantageous to a particular artist or label than a traditional record deal.
The Basic Financial Structure of Profit Split Deals
Under the terms of the typical profit split deal, the record company advances all costs (overhead costs, recording, manufacturing and marketing costs). The artist and the record company then share the net profits from record sales. To compute the net profits, the record company typically deducts off the top all actual out-of-pocket costs incurred by the record company for recording, manufacturing, promotion, marketing, etc., plus often a so-called “overhead fee” of 10 to 15% of the gross record sales income. After the record company deducts all of those costs and fees from the gross record sales income, the label pays the artist a share of the profits in whatever proportions their contract says (usually 50-50).
Though this percentage is obviously much larger than the 12 to 15% royalty range mentioned above for traditional record deals, the artist in a profit split deal is only getting 50% of the income for records sold after all expenses are paid, whereas in the case of the traditional record deal, the artist starts getting the artist royalty after the record company recoups the recording costs (and certain other costs, typically) from artist royalties.
In short, comparing the economics of profit split deals to traditional record deals is confusing, and to a large extent, is like comparing “apples and oranges.” As discussed in more detail below, the only way to have a decent idea of which arrangement will likely be better financially is to crunch the numbers and do a certain amount of spreadsheet analysis based on projected sales levels and projected recording, marketing and promotion costs.
The “Territory”
The typical profit split deal will either cover record sales worldwide, or if the artist has significant negotiating clout, the profit split deal will apply to the sale of recordings in only certain territories (e.g., North America), in which case only the artist will have the right to make deals for other countries. Even then, though, the contract will sometimes provide that the artist will have to pay the label a small percentage of the artist’s income from foreign deals.
The “Term”
Sometimes the profit split deal is for just one record (i.e., a “one off”), or the deal will be one initial record, with the record company having options to do a certain number of follow-up records.
From an artist’s point of view, it is crucial that the agreement contain clearly defined termination provisions in case the deal is unproductive or the label fails to perform its obligations. Therefore, the contract should specify what the artist’s rights will be if the record doesn’t get released, or if it goes out of print, or if the label ceases to have bona fide national distribution, or if the label defaults on certain other obligations, for example, if the label fails to spend the amount of money on marketing and promotion that the label had guaranteed in the contract that it would spend.
Cash Advances
In most cases, since a lot of profit split deals are done between newer artists and very small labels, there often is no cash advance paid. However, there are certainly situations in which the artist has some negotiating clout and the label has sufficient financing, and in those situations there are often cash advances.
Ownership of Masters
The master recordings will be owned either by the artist and label jointly, or far more commonly, by the record company alone. (Usually the ownership will continue for the full life of the copyrights of the masters, i.e., a very long time, and long after the parties are no longer actively working together.)
Miscellaneous Contract Issues
Despite the differences between profit split deals and traditional record deals, there is a certain amount of overlap between such deals, because many of the same issues that need to be dealt with in a traditional record contract also need to be dealt with in a profit split agreement – for example, when will the artist be obligated to deliver masters to the label, what approval rights will the artist have, who will have the right to maintain the artist’s “Official Website,” and so on.
Song Ownership and Music Publishing Income
Usually, with these kinds of deals the artist retains all ownership of his or her original songs, as is also usually the case with traditional record deals (at least in modern times).
But, there are a couple of wrinkles here with profit split deals, though.
First of all, profit split deals often provide that the artist’s share of record sales income will cover both the artist’s artist royalties AND songwriter royalties. This is different from the traditional record deal situation, in which the artist/songwriter is entitled to receive mechanical royalties on all record sales on a regular basis once the record is released, and most often this is an important source of cash flow for the artist. But with profit split deals, if the artist is not entitled under the contract to receive mechanical royalties, as is often the case, the artist does not have the cash flow benefit of receiving mechanical royalties on a regular basis during the term of the deal.
Secondly, it is important to mention that often the initial contract proposal from the label will propose that the label will share in all music publishing income (for example, from airplay), and even, sometimes, the contract will provide for the label to share in merchandise and touring income as well. In most instances, though, by the end of contract negotiations the label will not be entitled to share in these kinds of income.
Marketing and Promotion Issues
Depending on the artist’s bargaining power, the artist may be able to obtain the right to approve (or at least be consulted about) major marketing and promotion decisions, and to have the contract guarantee that the label will spend up to a certain specified amount of money each year for marketing and promotion.
In many such agreements, if the label fails to make the guaranteed “spends,” the artist will either be entitled to terminate the agreement and/or the label will at least not be entitled to exercise any options for follow-up records.
Accountings
Usually the agreement requires the label to regularly provide (usually semi-annually) an itemized accounting for all income received from record sales and for all expenses incurred.
Advantages and Disadvantages for Artists
There are several potential advantages and disadvantages for artists with these kinds of deals.
In terms of advantages, as mentioned above, there are situations in which, if sales are very substantial, the artist will receive a much larger share of total record sales income with a profit split kind of deal than with a traditional record deal.
It is often hard to scientifically determine which is the best option, because it is often difficult to predict what the actual record sales income and expenses will add up to.
The only way to really analyze a situation like this very carefully is to spreadsheet it, based on a range of projections about what the total expenses will be and what the sales levels will be. As in any kind of contract situation, it is crucial to “crunch the numbers.”
In terms of possible disadvantages, one real disadvantage is if the artist is not entitled to receive regular mechanical royalty payments during the course of the deal, as is often the case. With these profit split kinds of deals, usually the label is spending money faster than it comes in, and so it may take quite awhile (if ever) before there is any net profit for the artist to get a share of.
And in a situation in which there ends up never being any net profit from record sales, the artist will be getting zero money from the deal, whereas, in the case of the traditional record deal, the artist would at least have received mechanical royalties (assuming, of course, that the artist has his or her own songs on the record).
Another potential disadvantage is that it is more difficult and cumbersome to do a royalty audit with profit split deals than it is with traditional record deals. That is because, in the case of profit split deals, the only way that an artist can know whether he or she was paid the proper amount if by verifying all income and all expenses that the label incurred. On the other hand, in the case of the traditional record deal, the artist only needs to verify the income received and certain kinds of expenses, but not all expenses.
That is not to say the a traditional royalty audit is a piece of cake, but instead, that the profit split kind of audit is even more cumbersome, expensive, and complicated than a traditional record deal audit. And even a traditional record deal audit, particularly in the case of major label deals, can very easily result in audit costs in the $15,000-20,000 range, and in some instances much more.
In short, it is wise for the artist to have the contract provide strong audit rights, and preferably for the contract to provide that if the label’s accounting statements are off by a certain percentage, that the label will be responsible for reimbursing the artist for any audit costs incurred.
Advantages and Disadvantages for the Label
The main disadvantage of profit split deals for labels is on the back end, that is, if the records are successful and the costs relatively small in comparison. In that scenario, the deal will be less profitable for the label than would be the case with a traditional record deal.
Conclusion
Profit split deals have become common only fairly recently, and as a result, there are not yet any clear industry standards in terms of the exact terms of such deals. For this reason, there is still a lot of improvising done, in terms of exactly how any particular deal will be structured.
When considering the advisability of entering into a profit split deal, and particularly when comparing a profit split deal offer from one label and a traditional deal offer from another label, it is obviously important to really think through carefully the various financial and logistical issues lurking under the surface.
Note: Bart Day is an entertainment attorney who divides his time between Los Angeles and Portland, Oregon. He has represented numerous nationally known recording artists, record companies, music publishers, computer game companies, managers, and producers, and has served as Vice-President of Legal and Business Affairs for a Los Angeles entertainment company
Bart is the co-author with Chris Knab of the book “Music is Your Business: The Musician’s FourFront Strategy for Success,” published in 2007. He is also the co-author of a chapter (entitled “Contracts and Relationships between Major Labels and Independent Labels”) in The Musician’s Business and Legal Guide, a book compiled by the Beverly Hills Bar Association and published internationally by Prentice Hall Publishing (New York and currently in its 4th edition).
From 1998 to 2002, Bart was an elected member of the Board of Governors of the Pacific NW Chapter of the Recording Academy (presenter of the Grammy Awards).
The reader is cautioned to seek the advice of the reader’s own attorney concerning the applicability of the general principles discussed above to the reader’s own activities.
Bartley F. Day
The Entertainment Law Group
1001 S.W. Fifth Avenue, Suite 1100
Portland, OR 97204 USA
[email protected]
"Profit Split Deals”: A Recent Alternative to the Traditional Record Deal
by Bart Day Entertainment Attorney
One of the recent changes in the music business, particularly in the past two or three years, is the rapidly increasing use of so-called “profit split” deals as an alternative to the traditional type of record deal.
This is particularly true in the case of indie label deals (as opposed to major label deals). That is not to say that major labels aren’t doing “profit split” kinds of deals, but most often they are only done with very established artists.
With these profit split deals, which are basically a kind of joint venture, the basic idea is that the net profits will be split (in most deals, 50-50) after all expenses are paid, whereas in the case of the traditional record deal, the artist is paid on a royalty basis, with the typical royalty in the range of 12 to 15% (of the retail price).
Profit split deals can be attractive to labels because the label doesn’t have to pay the artist anything (including, usually, mechanical royalties) until all costs have been recouped from record sales by the label. This is usually not the case with the traditional type of record deal.
Profit split deals can also be attractive to artists, but obviously for different reasons. For one thing, if record sales are quite substantial and the costs involved are reasonable in comparison, the artist may well come out significantly better on total sales with a profit split deal than the traditional record deal. Also, the idea of a 50-50 split of net profits seems inherently fairer and more comprehensible than the voodoo economics of the traditional record deal. Plus, some artists prefer the general feel of a profit split situation, which can feel more like a partnering arrangement and a more collaborative relationship with the label than is typically the case with the traditional artist-label relationship.
All of that having been said, there are some subtle financial issues under the surface with these profit split deals, and a result, it is not always easy to determine in advance whether a profit split deal will in fact be more or less advantageous to a particular artist or label than a traditional record deal.
The Basic Financial Structure of Profit Split Deals
Under the terms of the typical profit split deal, the record company advances all costs (overhead costs, recording, manufacturing and marketing costs). The artist and the record company then share the net profits from record sales. To compute the net profits, the record company typically deducts off the top all actual out-of-pocket costs incurred by the record company for recording, manufacturing, promotion, marketing, etc., plus often a so-called “overhead fee” of 10 to 15% of the gross record sales income. After the record company deducts all of those costs and fees from the gross record sales income, the label pays the artist a share of the profits in whatever proportions their contract says (usually 50-50).
Though this percentage is obviously much larger than the 12 to 15% royalty range mentioned above for traditional record deals, the artist in a profit split deal is only getting 50% of the income for records sold after all expenses are paid, whereas in the case of the traditional record deal, the artist starts getting the artist royalty after the record company recoups the recording costs (and certain other costs, typically) from artist royalties.
In short, comparing the economics of profit split deals to traditional record deals is confusing, and to a large extent, is like comparing “apples and oranges.” As discussed in more detail below, the only way to have a decent idea of which arrangement will likely be better financially is to crunch the numbers and do a certain amount of spreadsheet analysis based on projected sales levels and projected recording, marketing and promotion costs.
The “Territory”
The typical profit split deal will either cover record sales worldwide, or if the artist has significant negotiating clout, the profit split deal will apply to the sale of recordings in only certain territories (e.g., North America), in which case only the artist will have the right to make deals for other countries. Even then, though, the contract will sometimes provide that the artist will have to pay the label a small percentage of the artist’s income from foreign deals.
The “Term”
Sometimes the profit split deal is for just one record (i.e., a “one off”), or the deal will be one initial record, with the record company having options to do a certain number of follow-up records.
From an artist’s point of view, it is crucial that the agreement contain clearly defined termination provisions in case the deal is unproductive or the label fails to perform its obligations. Therefore, the contract should specify what the artist’s rights will be if the record doesn’t get released, or if it goes out of print, or if the label ceases to have bona fide national distribution, or if the label defaults on certain other obligations, for example, if the label fails to spend the amount of money on marketing and promotion that the label had guaranteed in the contract that it would spend.
Cash Advances
In most cases, since a lot of profit split deals are done between newer artists and very small labels, there often is no cash advance paid. However, there are certainly situations in which the artist has some negotiating clout and the label has sufficient financing, and in those situations there are often cash advances.
Ownership of Masters
The master recordings will be owned either by the artist and label jointly, or far more commonly, by the record company alone. (Usually the ownership will continue for the full life of the copyrights of the masters, i.e., a very long time, and long after the parties are no longer actively working together.)
Miscellaneous Contract Issues
Despite the differences between profit split deals and traditional record deals, there is a certain amount of overlap between such deals, because many of the same issues that need to be dealt with in a traditional record contract also need to be dealt with in a profit split agreement – for example, when will the artist be obligated to deliver masters to the label, what approval rights will the artist have, who will have the right to maintain the artist’s “Official Website,” and so on.
Song Ownership and Music Publishing Income
Usually, with these kinds of deals the artist retains all ownership of his or her original songs, as is also usually the case with traditional record deals (at least in modern times).
But, there are a couple of wrinkles here with profit split deals, though.
First of all, profit split deals often provide that the artist’s share of record sales income will cover both the artist’s artist royalties AND songwriter royalties. This is different from the traditional record deal situation, in which the artist/songwriter is entitled to receive mechanical royalties on all record sales on a regular basis once the record is released, and most often this is an important source of cash flow for the artist. But with profit split deals, if the artist is not entitled under the contract to receive mechanical royalties, as is often the case, the artist does not have the cash flow benefit of receiving mechanical royalties on a regular basis during the term of the deal.
Secondly, it is important to mention that often the initial contract proposal from the label will propose that the label will share in all music publishing income (for example, from airplay), and even, sometimes, the contract will provide for the label to share in merchandise and touring income as well. In most instances, though, by the end of contract negotiations the label will not be entitled to share in these kinds of income.
Marketing and Promotion Issues
Depending on the artist’s bargaining power, the artist may be able to obtain the right to approve (or at least be consulted about) major marketing and promotion decisions, and to have the contract guarantee that the label will spend up to a certain specified amount of money each year for marketing and promotion.
In many such agreements, if the label fails to make the guaranteed “spends,” the artist will either be entitled to terminate the agreement and/or the label will at least not be entitled to exercise any options for follow-up records.
Accountings
Usually the agreement requires the label to regularly provide (usually semi-annually) an itemized accounting for all income received from record sales and for all expenses incurred.
Advantages and Disadvantages for Artists
There are several potential advantages and disadvantages for artists with these kinds of deals.
In terms of advantages, as mentioned above, there are situations in which, if sales are very substantial, the artist will receive a much larger share of total record sales income with a profit split kind of deal than with a traditional record deal.
It is often hard to scientifically determine which is the best option, because it is often difficult to predict what the actual record sales income and expenses will add up to.
The only way to really analyze a situation like this very carefully is to spreadsheet it, based on a range of projections about what the total expenses will be and what the sales levels will be. As in any kind of contract situation, it is crucial to “crunch the numbers.”
In terms of possible disadvantages, one real disadvantage is if the artist is not entitled to receive regular mechanical royalty payments during the course of the deal, as is often the case. With these profit split kinds of deals, usually the label is spending money faster than it comes in, and so it may take quite awhile (if ever) before there is any net profit for the artist to get a share of.
And in a situation in which there ends up never being any net profit from record sales, the artist will be getting zero money from the deal, whereas, in the case of the traditional record deal, the artist would at least have received mechanical royalties (assuming, of course, that the artist has his or her own songs on the record).
Another potential disadvantage is that it is more difficult and cumbersome to do a royalty audit with profit split deals than it is with traditional record deals. That is because, in the case of profit split deals, the only way that an artist can know whether he or she was paid the proper amount if by verifying all income and all expenses that the label incurred. On the other hand, in the case of the traditional record deal, the artist only needs to verify the income received and certain kinds of expenses, but not all expenses.
That is not to say the a traditional royalty audit is a piece of cake, but instead, that the profit split kind of audit is even more cumbersome, expensive, and complicated than a traditional record deal audit. And even a traditional record deal audit, particularly in the case of major label deals, can very easily result in audit costs in the $15,000-20,000 range, and in some instances much more.
In short, it is wise for the artist to have the contract provide strong audit rights, and preferably for the contract to provide that if the label’s accounting statements are off by a certain percentage, that the label will be responsible for reimbursing the artist for any audit costs incurred.
Advantages and Disadvantages for the Label
The main disadvantage of profit split deals for labels is on the back end, that is, if the records are successful and the costs relatively small in comparison. In that scenario, the deal will be less profitable for the label than would be the case with a traditional record deal.
Conclusion
Profit split deals have become common only fairly recently, and as a result, there are not yet any clear industry standards in terms of the exact terms of such deals. For this reason, there is still a lot of improvising done, in terms of exactly how any particular deal will be structured.
When considering the advisability of entering into a profit split deal, and particularly when comparing a profit split deal offer from one label and a traditional deal offer from another label, it is obviously important to really think through carefully the various financial and logistical issues lurking under the surface.
Note: Bart Day is an entertainment attorney who divides his time between Los Angeles and Portland, Oregon. He has represented numerous nationally known recording artists, record companies, music publishers, computer game companies, managers, and producers, and has served as Vice-President of Legal and Business Affairs for a Los Angeles entertainment company
Bart is the co-author with Chris Knab of the book “Music is Your Business: The Musician’s FourFront Strategy for Success,” published in 2007. He is also the co-author of a chapter (entitled “Contracts and Relationships between Major Labels and Independent Labels”) in The Musician’s Business and Legal Guide, a book compiled by the Beverly Hills Bar Association and published internationally by Prentice Hall Publishing (New York and currently in its 4th edition).
From 1998 to 2002, Bart was an elected member of the Board of Governors of the Pacific NW Chapter of the Recording Academy (presenter of the Grammy Awards).
The reader is cautioned to seek the advice of the reader’s own attorney concerning the applicability of the general principles discussed above to the reader’s own activities.
Bartley F. Day
The Entertainment Law Group
1001 S.W. Fifth Avenue, Suite 1100
Portland, OR 97204 USA
[email protected]