Verbal Contracts: What Are They Really Worth?

The first recording agreement I had the pleasure of signing as a recording artist was a typical, label-friendly, multi-option contract. The anemic royalty, based on the “suggested retail price,” was further depleted by container deductions, deductions for so-called “free goods,” and paid on only 90% of net sales to account for records damaged in shipping (as they often were in the dark ages of shellac discs). In essence, it was a scam, though a scam that had evolved and had become accepted as industry standard. I had no idea how lousy the financial terms were for my band at the time. When I finally learned enough about the business to understand the deal terms, I felt duped and angry at our attorney for failing to adequately explain the contract to my band. I felt much better about the terms of my next deal: a handshake agreement with a startup indie to split all profits from any releases 50/50. We didn’t address territory, ownership of the masters, mechanical royalties, what constitutes the label’s “costs,” or even exclusivity between artist and label. Not surprisingly, we eventually had to fill in some of these terms under somewhat less amicable circumstances. Now that I spend most of my time representing artists and labels in recording agreement negotiations, I have realized that my experience reflects the two basic types of recording agreements in the late 1980s/1990s industry. On the one hand, majors and some independents insisted upon very formal, generally label-friendly and traditionally-structured deals, and on the other hand certain independent labels offered rather informal net profit split agreements, which were often verbal agreements striving to provide the antithesis of what was widely regarded in the indie community as the outmoded major label-style deal. Both of these models have flaws, and both basic structures exist today, albeit often in slightly more evolved forms. The challenge that enlightened indie labels, career-minded artists, and counsel for both face today is how to structure and draft a workable written agreement that retains the independent spirit and intrinsic “fairness” of the aforementioned handshake deal. This article is the first of several I will write about net profit split recording agreements; future articles will focus on certain specific issues that are briefly addressed in this introductory piece. Below I will summarize certain key terms that should be considered and addressed in any such agreement.
Ownership of Master Sound Recordings The question of ownership of the master sound recordings is a key term in any recording agreement. The trend today with independent labels is toward record companies licensing the exclusive rights in master recordings from artists instead of owning the copyrights in the underlying masters. Nevertheless, often a first draft of the contract – even in net profit split deals – is structured so that the label owns the masters. Thus, retaining ownership becomes a key negotiation point. Typical license terms for master recordings range from five to thirty-five years. Significantly, under United States law any transfer of ownership of sound recordings must be in writing and signed by the transferor to be effective. Thus, any verbal agreement that purports to transfer ownership of masters is void. Furthermore, any license agreement with respect to sound recordings must be in writing or is terminable at will by either party. In a recent federal case, the Butthole Surfers won on appeal in a suit against Touch and Go Records to terminate a verbal license agreement with respect to numerous valuable albums recorded by the band. As such, it is enormously important for any label to insist upon a signed contract for any recording agreement.
Controlled Compositions Clause In recording agreements, songs that are written in whole or in part by the artist are called “controlled compositions.” Traditionally, labels pay the writers of controlled compositions a royalty – referred to as a “mechanical royalty” in exchange for the writer granting a license to the label to sell recordings of the composition. The typical approach under net profit split recording agreements to the controlled composition clause is that the artist waives mechanical royalty payments with an acknowledgment that mechanicals are a part of the artist’s share of the net profits. This becomes problematic for the artist/writer because publishers often rely on mechanicals as a guaranteed revenue stream. Without a mechanical royalty stream, the writer/artist is less marketable to publishers. It is often favorable to the artist to establish a separate, recoupable mechanical royalty stream to address this problem.
Definitions of “Costs” and “Advances” In net profit split agreements, the difference between “costs” and “advances” can be unclear and confusing. Generally, costs are broadly defined to include all expenses of the label with respect to a project except general overhead. Sometimes, however, labels pass through general overhead expenses to artists on a pro-rata basis. Costs are recouped “off the top” from the first sale. It’s important to note that the definition of recoupable costs under a net profit agreement can be far broader than a traditional royalty model. As such, the “fairness” of the net profit split can prove somewhat illusory. In contrast, advances are generally understood to be monies that have been advanced to the artist, which the label recoups solely from the artist’s share of royalties once the label has recouped all costs. It is in the artist’s interest to have as many expenses as possible treated as costs that are shared by artist and label.
Non-Traditional Revenue Streams The newest model for recording agreements, the so-called 360 deal or all-in deal, can pose problems for artists. It’s no secret in the music industry that it is becoming increasingly difficult for labels to sell sound recordings. As such, labels may justify commissioning non-traditional revenue streams in their recording agreements, such as touring, publishing and merchandise by citing the generosity of a 50/50 net profit split. Whether or not these emerging deal structures make sense in any particular situation requires a factual analysis. Depending on the strength of the label, existing fan base of the artist, and other issues, an all-in deal may benefit the artist. Nevertheless, there are many situations in which the all-in deal primarily benefits the label.
Conclusion As the mainstream music industry struggles to find a new paradigm in the digital age, the indie business is quickly evolving – often to the artist’s advantage. Please keep in mind, however, that any agreement transferring or licensing copyrights in sound recordings should be in writing, prepared by an attorney with music industry experience, reviewed by competent counsel, and signed by all parties. While I very much appreciate the spirit and intentions with which net profit deals are generally approached, it is crucial to carefully consider and review (and execute a writing with respect to) the material terms of these contracts.
via John P. Strohm

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