Royalty Suit a Shock to Film Studio System?

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Royalty Suit a Shock to Film Studio System?
Alan Ladd Jr.

Alan Ladd Jr., the former studio executive who green-lighted “Star Wars,” said he’s won a decadelong battle against a corporate version of the Empire, and the result could change the way Hollywood accounts for movie royalties.

Ladd’s key contention was that when studios sold his films to broadcasters as part of packages, they divided the royalties evenly among each item in the package; a hit like “Star Wars” or “Chariots of Fire” could result in payment of the same sum as a box office dud. An appellate court recently ruled in his favor, agreeing that this “straight-line” accounting was fundamentally unfair. The case is seen as significant because if the ruling stands, producers of high-grossing films could claim higher royalties and producers of small movies might get less.

The conflict started in 2000 when Ladd Co., an independent producer, complained to Warner Bros. that royalty calculations were undervalued for 12 films including “Blade Runner,” “Night Shift” and the six “Police Academy” sequels. In one case, Ladd’s auditor found that one of his movies was given the same value as a Daffy Duck cartoon.

Ladd’s initial complaints resulted in a 2003 lawsuit. Warner Bros. won the first round in 2007, but on May 25 the California Appellate Court reversed that decision and largely vindicated Ladd’s original complaint of underpayment.

Frederic Cohen, an attorney at Horvitz & Levy in Encino who represents Warner Bros., said the company plans to appeal the case to the California Supreme Court.

Ladd, 72, said he is prepared to continue the legal fight.

“We just hit the tip of the iceberg in our case in terms of their financial finagling and cheating people,” Ladd told the Business Journal last week. “If they want to continue with this charade, fine, because the more they do, the more angry they make me and the more I want to fight them. They would be foolish to drag it out now. It will only cause them more embarrassment.”

A spokeswoman from Warner Bros. declined to comment.

Hollywood battleground

Ladd, the son of the famous actor best known for “Shane,” has worked both inside and outside the studio bureaucracy.

In 1963, he began as a talent agent, eventually representing Elizabeth Taylor, Warren Beatty, Robert Redford and Marlon Brando. In 1976, he became president of 20th Century Fox, where he supervised the production of “Star Wars.” In 1979, he left Fox to start Ladd Co., although the company was dormant for several years in the 1980s while he ran MGM. Ladd Co.’s most recent film was “Gone Baby Gone” in 2007.

For Warner Bros. – and by implication the other major studios – Ladd’s recent victory could change calculations of royalties for producers, directors, writers and actors. Darrell Miller, a partner at the law firm Fox Rothschild in Century City who represents many artists in royalty disputes, said the Ladd issue could lead to other claims and lawsuits.

“It is one of those cases that we all have our eyes on,” said Miller, who is not involved in the case. “I’m looking at how it will affect clients making a new deal or challenging royalty statements. It won’t spark a floodgate of litigation, but for guys like me it will provide some leverage in challenging accounting statements.”

In a typical movie deal, studios finance production by paying to get distribution rights. Once the film is finished, the studio shows it in theaters. After that, the studio licenses the movie to TV broadcasters and DVD makers worldwide.

Studios package the films into bundles for those secondary markets. A studio, for example, might sell to a foreign TV network a package of 100 movies, including a few hits, a few dozen mediocre movies and a number of box office duds. In straight-lining, the studio simply divides the total revenue of the package by the number of films, thus assigning each film the same value.

Ladd contends that hit movies have more value than others and producers should be compensated accordingly.

At first glance, increasing compensation for blockbuster movies such as Ladd’s would seem to take money away from less successful producers in the package deals. But Miller, the attorney at Fox Rothschild, said that hits are fewer than misses, so the amount of money that straight-lining costs big hits is much more than the amount that would be lost by smaller ones.

“With straight-lining, the benefit to poor movies is much less than the detriment to the well-performing movies,” he said.

Miller added that it’s common for producers to file lawsuits seeking higher royalties. The studios either quickly settle to minimize their time and energy, or drag the case out in court – as with Ladd. As a result, only rare cases – usually involving producers with the means to sustain a lengthy legal battle – ever reach a jury.

Before the Ladd case, the last significant accounting dispute to yield a decision was the Art Buchwald versus Paramount case in 1990. Buchwald was successful in showing the studio stole his idea for “Coming to America,” and was successful in proving his allegation that the studio lied when it claimed the hit film wasn’t profitable in order to avoid paying him.

For less wealthy producers – especially those with only one or two credits on subpar films – the costs of fighting the studios outweigh any benefits. In addition, it’s common wisdom in Hollywood that suing a studio is a bad career move if the artist wants to continue working, Miller said.

But Ladd believes a few big producers will follow him into the courtroom.

“People like Clint Eastwood, Steven Spielberg, Jerry Bruckheimer and Brian Grazer will have a lot to gain,” Ladd said. “They will occasionally go after it, particularly foreign revenues, where the accounting is even more egregious than on the domestic side.”

He said Warner Bros. only once attempted a settlement – an offer that he immediately rejected. He is convinced that previous generations of Warner Bros. management, such as the team of Bob Daly and Terry Semel, would have settled the matter with a simple negotiation, but the current executives “are too arrogant to pick up the phone.”

Miller said that studios contend that there isn’t a valid alternative to straight-lining, given all the variables. For example, a film could be a hit in Japan and a flop in France. But he rejects that argument, because studios have mastered ways to quantify and standardize every other aspect of movie-making.

“Their entire business model is based on audience analysis and projections,” Miller said. “The facts in Alan Ladd’s case show they didn’t go out of their way to find a method that’s fair.”

Financially, the court decided that Warner Bros. should have allocated an additional $97 million of value to Ladd Co. films. Since a producer only gets a small slice of that value, the final award came to $3.2 million.

John Gatti, partner at the law firm Stroock & Stroock & Lavan in Century City who represents Ladd in the case, said the judgment plus retroactive interest now totals $4.5 million. Moreover, the court sent two issues back to the lower court for judgment.

Adding up

The first issue involves profits for the film “Blade Runner” and the second involves the removal of Ladd’s credits from hundreds of thousands of DVDs in a foreign territory. Gatti contends that these issues could add an additional $2 million or more to the final tally, if Ladd is successful.

But Ladd acknowledged that even if everything goes his way, his court crusade will barely reach break-even.

Cohen, the attorney for Warner Bros., said the studio agreed that it had a duty to fairly value each film in a bundle. However, there are many factors when valuing a specific film, including its age, stars, awards and cultural appeal in certain countries.

The Ladd case involved 218 separate licensing agreements and only a few used the “straight-line” method, Cohen said.

“Of the 218 license fee agreements for which damages were awarded, my recollection is that only two straight-line agreements were offered into evidence, and there was testimony about only a handful of others,” he explained. “To prove a breach of that duty, Warner believed that Mr. Ladd was required to introduce each of the 218 agreements into evidence and demonstrate as to each precisely why he believed his films were undervalued.”

However, the appellate court found straight-lining broke “the implied covenant of good faith and fair dealing” in a contract.

Cohen said the company is reviewing the court decision. He didn’t know if Warner Bros. would consider changing its licensing and royalty procedures.

But Miller, the attorney at Fox Rothschild, believes changes will be forthcoming.

“This case is directly focused on one of their practices, and if they are found in breach of duty, they are compelled to either change their practice or appeal to the highest court,” he said. “Otherwise, they would be inviting producers to try to get a better settlement.”

Warner Bros. must file for a review by the California Supreme Court by July 5, and the court usually accepts or declines a case within 60 days. If accepted, it will take about a year for the case to reach trial and get a decision, Gatti estimated.

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