Recording Contracts: The Basic Concepts

There is probably no subject in the music business more frequently discussed, yet more misunderstood, than the subject of recording contracts.

As most musicians know, recording contracts are painfully long and complex. The typical U.S. major label contract is usually in the range of fifty to seventy pages, single-spaced. The contracts used by independent labels tend to be substantially shorter, often in the range of ten to thirty pages. Occasionally, however, I will encounter an independent label contract which is just as long and complicated as any major label contract, but this is fairly unusual.

There is no one standard recording contract used by all record companies; each company has its own basic form which it will use as the starting point for negotiations. Even so, the vast majority of recording contracts are structured in the same general way, employ the same general concepts, and look generally very similar, at least in the case of major label contracts. There are, however, some significant variations in recording contracts from record company to record company, since each of the various labels tends to deal differently with certain specific contract issues.

There are also some variations between the exact terms of recording contracts from one band to the next, even in the case of bands on the same label, by reason of the difference in the exact outcome of each band’s recording contract negotiations with the label.

THE NEGOTIATION OF RECORDING CONTRACTS

After a record company has informally offered a band a recording contract, the “Business Affairs” department (i.e., the legal department) of the record company will then customarily prepare a first draft of the contract and send it to the band’s attorney for review.

The band’s attorney will then make handwritten comments on the contract draft, outlining his/her objections to particular clauses in the contract. As part of this process, the band’s attorney will meet with the band and the band’s manager, review the contract with them, and obtain their approval as to any specific negotiating positions.

The band’s attorney will then return the contract draft with his/her handwritten comments, called a “mark up,” to the record company. The lawyers for the band and the record company will then discuss, usually by telephone, the various issues in dispute and try to resolve their differences. If they are able to do so, the record company’s lawyer will then prepare a new version of the contract for the band attorney’s approval.

Frequently, due to the complexity of recording contracts, this cycle will often repeat itself at least several times before the contract is actually finalized and signed.

The flow of these negotiations will depend on a variety of factors, such as the relative bargaining power of the particular band and record company involved, the nature of the personalities of the people involved, the size and personality of the record company itself (each company tends to have somewhat of its own personality), and the past track record of the band. These various factors will determine not only the flow of the negotiations, but also obviously the results of the negotiations.

Incidentally, there are, on the one hand, some items in recording contracts which are almost always negotiated (for example, the royalty rates, and the size of the recording budget); but, on the other hand, there are other items which are rarely negotiated — for example, how often the record company will provide royalty accountings to the band (semi‑annually).

THE BASIC ELEMENTS
OF THE TYPICAL RECORDING CONTRACT

It is a little dangerous to attempt to discuss generally and briefly the subject of recording contracts, due to the complexity of the subject. For every general statement which can be made, there are numerous exceptions. Consequently, it is important to bear in mind that the comments below must, necessarily, oversimplify the subject to a large degree.

In a nutshell, the main features of the typical recording contract are as follows:

1. Term of Contract. The “term” of a contract means, basically, how long the contract will last. This is usually stated in terms of how many records the contract will be for.

To get more specific, it’s important to understand that the typical recording contract obligates the band to record a specified maximum number of albums. However, it is the record company alone which will have the right to determine how many records the band will actually end up recording. This will be handled on an album‑to‑album basis; after the band delivers the master of an album to the record company, the record company will then have the right to decide within a certain period of time whether it will exercise its option to have the band record the next album. This process will repeat itself for as many albums as the contract requires the band to record, unless in the meantime the record company loses interest in the band and drops the band from the label, which the record company is contractually entitled to do. (The record company must, of course, continue to pay royalties for those records which the record company continues to sell.)

2. Territory. The term “territory” means the geographical area in which the record company is allowed to sell the band’s records.

Most recording contracts give the record company the right to sell, worldwide, the albums which the band records during the term of the contract. This is particularly true with major labels, which want to have “product” to feed to their worldwide distribution systems. In the case of smaller labels, however, it is frequently possible for the band to limit the record company’s rights to only the U.S. rights, in which case the band will then have the right to enter into separate agreements with one or more foreign record companies for those foreign countries not covered by the band’s deal with the U. S. label.

Or the band may first sign a deal with a foreign label, and then later seek a deal with a U. S. company. This will more likely be the scenario when the band’s style of music is more popular outside the U. S. than in the U. S.

3. Exclusivity. The typical recording contract gives the record company the exclusive right to all of the band’s recorded performances during the term of the contract. In other words, the band typically cannot record any material for any other record company for as long as the contract is in effect. The typical “exclusivity” clause in recording contracts is usually very broad, and gives the record company the exclusive rights to the band’s performances in, for example, long-form concert videos and musical performances in films.

There are some labels, however, which will agree to a clause in the recording contract allowing the artist to do a certain specified number of outside projects per year. Whether an artist can get this will depend on the particular label involved and the bargaining power of the artist.

Traditionally, the record company does not have any right to share in any of the band’s live performance income. However, given the current dismal state of the record business, some of the major labels have started making noises about changing this policy, so that the label could start sharing in its artists’ live performance/touring income, as well as merchandising income (income from the sale of t-shirts, etc.)

4. Artist Royalties. It’s important here to first distinguish “artist royalties” from “mechanical royalties.” Put simply, artist royalties are paid to the band for its recorded performances on records. Mechanical royalties, on the other hand, are paid to the publishers/songwriters of songs on the records.

Now, back to “artist royalties.” In short, the contract will specify a certain percentage artist royalty to be paid to the band for each record sold, usually based on a percentage of the retail list price.

Recording contracts almost always provide also that a lesser artist royalty will be paid on foreign sales than on U. S. sales — often in the range of 50%-75% of the U. S. royalty rate. Example: The U.S. royalty rate might be 14%, and the foreign sales royalty might be l/2 of that, or 7%. More typically, though, the royalty rate structure would be something like the following: For Canada, 85 to 90% of the U.S. royalty rate; for Europe, Japan, and Australia, two-thirds to 75% of the U.S. royalty rate; and for the rest of the world (“R.O.W.”), 50% of the U.S. royalty rate.

Since there is so little economic justification for there to be significantly lower royalties paid on foreign sales than on U.S. sales, most attorneys for artists will resist as much as possible reducing the foreign royalty rates any more than necessary.

Incidentally, there is occasionally an independent label which will pay the same artist royalty rate on foreign sales as on U.S. sales, but such labels are not easy to find.

5. Mechanical Royalties. In addition to the “artist royalties” mentioned above, the band will also receive “mechanical royalties” from the record company for those songs on the band’s records which were written by the band.

6. Recording Costs and “Recoupment.” The record company will pay the recording costs for all recordings done for the company, subject to the specific dollar amount limits contained in the contract.

Although the record company will advance these costs, the record company will have the right to reimburse itself (“recoup”) these costs out from the band’s artist royalties (but not, normally, from mechanical royalties).

Example: If an album cost $100,000 to make, and the artist royalties eventually add up to $150,000, then the record company will reimburse itself the $100,000 for the recording costs, with the band getting the balance ($50,000).

On the other hand, if the royalties add up to only $75,000, the company will be “out” the remaining $25,000 of recording costs, though it will be entitled to recoup this amount from the band’s future royalties on later albums done for the company.

Sometimes you hear about a band being “in debt” to its label. This terminology is misleading, since it implies that the band will be obligated at some point to pay the label back out of the band’s own pocket for any such shortfall. However, this is almost never true. This is because most recording contracts specifically say that recoupable costs (such as recording costs) will be “recoupable, but non refundable.” Therefore, as a general rule, the label will only be entitled to be deduct (recoup) those recoupable costs from the band’s future artist royalties, and will not be entitled to demand that the band pay the label back out of the band’s own pocket. If the band’s future royalties are insufficient to cover those recoupable costs, then it is the label that will suffer the financial consequences, and not the band.

Put simply, the record company will be entitled to reimbursement from the band’s artist royalties, and only from those royalties. To the extent those royalties are insufficient to fully reimburse the company, the record company will not be entitled to go after the band for the shortfall.

In addition to fronting the recording costs, the record company may also make cash advances to the band. Any such advances will be recoupable by the record company from the band’s future royalties, just as the recording costs are recoupable.

There are other costs which may also be recoupable by the label from the artist royalties, such as (sometimes) one-half of certain independent promotion and marketing costs and video production costs, but often only up to a certain maximum dollar amount.

As already mentioned, the record company is customarily entitled to reimbursement (recoupment) for its recording costs (and other recoupable costs) only from “artist royalties.” And not from “mechanical royalties.” And, since the mechanical royalties are not affected by reimbursement to the record company, bands often start receiving mechanical royalties long before they see any artist royalties. In fact, in many, many situations, the mechanical royalties which a band receives will be the only money which the band will ever earn from the record deal (other than the original cash advance).

Therefore, if you are signing a recording contract, make absolutely sure that the contract does not allow the label to recoup any costs from any royalties other than the artist royalties.

Also, it’s important to remember that the record company is customarily entitled to recoup, from the band’s artist royalties, only the costs and cash advances mentioned above. Other kinds of costs — for example, the record company’s manufacturing and advertising costs — are typically not recoupable from artist royalties.

However, some companies, particularly some very small record companies, will sometimes try to put a clause into the recording contract, allowing the record company to reimburse itself from the band’s royalties for all advertising costs, promotion costs, manufacturing costs etc., incurred by the record company. However, almost all companies, when “called” on this, will agree to drop such a clause from the first draft of the contract.

If such a clause is left in the contract, it’s extremely unlikely that the band will ever receive any artist royalties from the record company. In fact, any label, which has such a clause in its contracts, should be legally required to have a red flag, as well as a skull and bones, included in its logo.

Incidentally, the above comments are meant to refer only to the traditional recording contract situation, whereby the artist receives a 10-15% royalty. Sometimes, though, a deal is set up as a joint venture type of relationship, whereby the artist and label share any net profits 50-50. In that type of situation, unlike the situation of the royalty-oriented traditional recording contract, it is entirely appropriate for all costs to be deducted off-the-top, with the net profits then shared equally.

7. Ownership of Masters. The typical recording contract will provide that the record company will own all masters recorded for the record company, and that the record company will have the right to press and sell, in perpetuity, records made from those masters. The record company will be obligated to pay the band a royalty for each such record sold, even after the band stops recording for that company.

However, there are a few wrinkles to the general rule (that the label will own the masters in perpetuity).

First of all, some established artists have the bargaining power to obtain a clause in their recording contract that the ownership of their masters will revert to them after a certain period of time. Sometimes, though, there is not such a clause in the original recording contract, but the band will obtain the rights to their masters through re-negotiations or through a lawsuit against the record company.

Secondly, it has become more and more common in recent years for recording contracts to contain a provision stating that if a record is not commercially released within a certain period of time after its completion, or if it is commercially released and later the record ceases to be distributed for a certain specified period of time, or if the band is dropped, the band will then have the right to a return of their masters from the record company, sometimes in exchange for a payment by the band to the label in the amount of the recording costs for the master.

Considering the current economic climate in the record business, with numerous bands being dropped or seeing their recently recorded records being put “on hold,” this has become an increasingly important clause for the band’s attorney to seek on the band’s behalf.

CONCLUSION

One final comment: The general financial structure of recording contracts has, generally speaking, been dictated by major labels, which have historically been able to control the economic structure of the record industry sheerly by virtue of their overwhelming bargaining power and financial leverage.
Although artists have long been frustrated with the financial structure of the traditional record industry, there have been no viable alternatives until recently. Now, with the alternatives, which the Internet is making available, artists are better able today to give voice to their frustrations with the traditional structure of the record industry and to explore the alternatives that the Internet has made available.

This is not to say that major labels will cease to be powerful, or that the economic structure of the record industry or the one-sided nature of recording contracts will suddenly change, to the benefit of artists. Nonetheless, there are alternatives and possibilities for artists today which were impossible to imagine before the onset of the Internet. Hopefully the Internet will cause such changes in the record industry that artists will begin to share more equitably in the record industry pie.

 

Editors Note: 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.

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