Welcome to the very first episode in our Quick Tips series. In this episode, we talk about the risks with profit share and revenue share deals and how we can deal with them contractually.
- About Our Quick Tips
- Why am I talking about this?
- Risks with Profit and Revenue Share Deals
- How to deal with these risks contractually
About Our Quick Tips
Our quick tips are going to be a quick five minute segment which you can listen to if you have a short period of time to listen but want to maximise the tips for a particular area of law in a short period of time. Today’s Quick Tips relate to revenue or profit share deals.
Why am I talking about this?
This topic was brought to the fore by a recent accusation that I have seen from Sylvester Stallone accusing Warner Brothers of failing to pay him his share of the studio’s revenue from the 1993 science fiction film Demolition Man.
Apparently, when this film was shot, Stallone had entered into an agreement with Warner Brothers that related to the payment of Stallone by way of 15% of defined gross revenue above $125 million USD.
Essentially, he had entered into a deal whereby he was entitled to 15% of a particular definition of gross revenue once it hit that $125 million mark.
Now this movie was made in 1993 so that’s going back quite a few years now.
According to Stallone he hadn’t been paid a cent in relation to this defined gross revenue deal that had been struck. Apparently, Warner Brothers were claiming that the movie hadn’t made money and was essentially backwards $88 million. But when Stallone’s company demanded clarification, Warner Brothers quickly sent through a check for $2.8 million dollars without any further explanation.
Stallone is arguing that Demolition Man took in $159 million in worldwide box office sales and that he is entitled to a payment far exceeding the $2.8 million that he was finally paid by Warner Brothers.
So there you go. That’s what happen in this situation of Stallone and Warner Brothers. The argument that is still on foot.
But what does all of that have to do with us and our revenue or profits shared deals?
I thought it was a really good topic for today’s five-minute quick tip. And I thought today I would talk about the sort of risks with profit share and revenue share deals and how we can deal with them contractually.
Risks with Profit and Revenue Share Deals
The first risk is if you deal with a profit share arrangement the real issue is in determining how it is that you’re going to calculate profit. Often a profit calculation is very difficult because it’s hard to nut out exactly what the expenses are that will be deducted from the revenue calculation to give you the profit at the end of the day.
This is one of the major issues with a profit share arrangement. If instead you’re looking at a profit share arrangement that refers instead to gross profit, you have the situation where it can be a bit clearer. In that case, usually we’ll cut out the overhead expenses that relate to things like premises and staffing and we only include then costs that related to the cost of sales of the goods directly.
However we can still have an issue in determining what the elements are that are going to be used in the calculation of gross profit, what expenses would be considered to be in or out of the gross profit calculation.
And finally instead of having a share of profit or gross profit, we could then alternatively look at a revenue share deal. And of course a revenue share deal is a bit cleaner from the perspective of the person that is receiving the commission or the profit share calculation because you don’t need to then worry about what you’re going to determine to be costs that are included in the calculation of profit or gross profit (as the case may be) as the alternative to a revenue share deal.
In revenue share deals, one party is essentially saying that they will take a proportion of all of the top line sales that relate to the particular goods or services that this revenue share deal relates to. So the calculation here is a lot easier but it can be very hard if you are the party that is going to be paying out part of your revenue to another party, to work out how are you going to come up with a figure or a calculation that will definitely work for you.
The issue is that in a revenue share deal situation, revenue percentages will generally be payable even if your costs have increased. If you ramp up your business by increasing the costs, this will lead to paying out a higher amount in this revenue share deal. Sometimes, if this isn’t worded correctly within your contracts, there might even be the risk that your costs exceed once you include the revenue share calculation, exceed any profit that you make (i.e. you might be in loss and yet still be in a situation where you have to pay out this revenue share split).
That’s the first main issue with revenue and profit share details – the calculation of where you come up with these figures from. There are many other issues but because this is quick tips I’m not going to go through them all. But the other general issues that you really need to be thinking about if you’re entering into a revenue or a profit shared deal are these:
How to deal with these risks contractually
1) If you’re the party that is receiving the revenue share split, how are you going to ensure that the calculation is correct? This is really important. How do you ensure that the numbers that you’re being provided in relation to what the profit or the revenue are correct?
2) How do you secure payment? How do you ensure that you will continue to be paid? This is a really important element to consider if you are on the receiving end. On the flip side, if you are the party who will be paying the revenue or profit share split, then you need to think very clearly about what your rights of termination are. If this deal is not working for you, how do you get out?
Well that’s it for our quick tips in relation to profit and revenue share deals. If you’re really interested in this topic and you like me to go through it in more detail, please drop us a note at talkinglaw.com.au so that we know it’s a topic of interest and we can talk about it in more detail.
And if you’d like further information about this topic or if you’d like a download of the transcript, then head over to our website at talkinglaw.com.au. Through that website you can download a transcript and if you’re interested in talking directly to a lawyer about a revenue or a profit share deal that you’re looking entering into, then you can contact one of our lawyers at Aspect Legal.
And finally if you enjoyed what you heard today please pop over to iTunes and leave us a review. You’ve been listening to Joanna Oakey and Talking Law. Thanks again for listening in and we’ll see you next time!