DISTRIBUTION AGREEMENTS: FURTHER ISSUES

IVAN HOFFMAN, B.A., J.D. 


When a publisher enters into a distribution agreement, and ideally before doing so, the publisher must consider a number of issues relative to how accountings are to be handled in that agreement. These issues relate not merely to the distributor's discounts and so on which are not the subject of this article but as well issues that relate to how the publisher handles its corresponding obligations in its agreements with the author, cover artist or other royalty participants.

Unless the publisher enters into the distribution agreement in such a way so that the publisher is protected relative its obligations to those royalty participants, the publisher may find itself in breach of its obligations to those participants and risk losing its rights to the book. Therefore, it is the wise publisher that has an attorney thoroughly review not only the proposed distribution agreement but all of the corresponding agreements with these royalty participants. This is one of the best explanations of my frequently repeated phrase: "Help me is almost always cheaper than fix me." It is the entrepreneur that understands *how* and *when* to spend money and is not focused solely on absolute cost. What seems cheap on day 1 can often turn out to be very expensive indeed on day 12.

1. CROSS COLLATERALIZATION ISSUES

Here is the scenario: you are a publisher and you have more than one title being handled by a single distributor. Each title is authored by either different authors or one or more titles are authored by the same author. Some titles are doing well and some are not. You get an accounting statement from your distributor and it shows that, while some titles are in the "black" and would otherwise entitle you to a check, other titles are in the "red" and returns have exceeded sales. Instead of sending you a check for those titles doing well, the distributor has offset the titles in the black with the negative accounts of the titles in the red.

The question: how do you handle your accountings to the authors? In other words, if one author's account shows that his or her book is selling and should be the subject of royalties, how do you pay that author if you are not being paid by the distributor? If the amounts are significant, you could have a major cash flow problem or worse, end up breaching your agreements.

This problem is referred to as "cross-collateralization" since the distributor treats all the books being handled by that distributor from this publisher as a single account for accounting purposes and you, as the publisher, only get the net result of that account in your statements. This problem is particularly acute for publishers who pay authors on the basis of some specific percentages that the publisher agrees to hold back as a reserve against returns since that may be less than what the distributor holds back from the publishers (see discussion under "3" below). Publishers should also note that, even if the author is paid on the basis of the "net amount received by the Publisher," that this may not be sufficient to cover the publisher. The issues raised here may not be covered by that language for I am not talking about monies received but monies claimed due and the problem is especially acute when the publisher has different titles by different authors being distributed or even one title that has both an author as well as perhaps a cover artist as royalty participants or any such combination. If an author of a successful title feels that he or she is being subject to a reserve that is higher than should be established for that title simply because the publisher may have other titles that are being returned in larger numbers and the distributor has established a larger reserve to cover that contingency, the successful author may make a claim.

Keep in mind that this scenario may not be an issue if you are the sole author of all your titles since it's all your money anyway or the distribution agreement covers only one title authored by another since there is only one author account. However, publishers often have other royalty participants such as cover artists and even editors and thus the problem may remain an issue even in such instances. Therefore, it is incumbent upon publisher's to know what their obligations may be and how best to handle such obligations.

The Problematical Language

The provision in the distribution agreement of which the publisher must be aware is whether or not the agreement covers only one title or "future titles" or "other works under this imprint" or similar broad-based words. Even if the agreement only names one title, there may be these other words that make the agreement applicable to other titles by the publisher. Often times the agreement provides that the scope of coverage includes other titles if accepted by the distributor but the publisher is not aware of the accounting problems that offering such other titles to the distributor and having the distributor accept those titles may present.

The problem may also present itself in the so-called "reserves" clause, in which the distributor maintains a reserve against anticipated returns. If the agreement covers more than one title by this publisher, the distributor may have the right to offset one reserve with another. In other words, if the reserves established for one book are being liquidated because that book is selling well and as a result the publisher may be entitled to a check, if the reserves are "cross collateralized" the unliquidated reserves established on book 2 may be used to offset the amount due on book one.

In either or both instances, among other ways the language can be phrased, if the agreement is not negotiated and changed on the part of the publisher, the distributor will in all likelihood simply use the amounts due on one book to offset amounts "due" on other books.

One Approach

One solution would be to have your attorney negotiate to have included in your distribution agreement a clause that provides that each title will be accounted for separately and those that show sales in excess of returns will not be used by the distributor to recoup monies "due from the publisher to the distributor" on account of those titles where returns exceed sales.

To the same effect, the agreement should be revised to provide that the reserves will also be treated on a book-by-book basis and not cross-collateralized.

This may be a difficult "sell" to the distributor since they are clearly not going to be very willing to lay out money on one set of books while you still owe them money on books that are coming back by the truckload. As a result, these agreements generally treat all of the books and titles of a distributor as a "single account" and thus the problem is created for the publisher.

Another Approach

Another way of approaching the problem is to make certain that the distribution agreement covers only one book or, if it covers more than one book, that you are the only author and royalty participant to whom money may be owed based upon sales. In the first instance, where only one book is covered per distribution agreement, in the event that you subsequently give that same distributor additional titles, then you must amend the distribution agreement at that time to cover this contingency.

In both of these instances, the publisher's agreements with authors, cover artists and other royalty participants should be examined carefully to make certain that the "single account" treatment found in the distribution agreement is also found in those agreements. This *may* be of some assistance if only when the situation involves only one author even if covering several titles but may not be helpful when the publisher has royalty obligations to more than just this one author, such as with multiple authors or other royalty participants.

Additionally, the publisher's agreement with the author and other royalty participants must be drafted to make certain that the publisher only has to pay these participants on the same basis as the publisher is paid.

2. ACCOUNTING PERIOD ISSUES

Many distributors account monthly but there is almost always a lag of a number of months between the accounting and the period for which the accounting is for. For example, they may pay monthly but for a period of anywhere from 90 to 120 days previously. In this instance, the publisher must check its agreements with its royalty participants to make certain that the publisher's accounting provisions do not conflict with the publisher's accountings from the distributor. When doing its accountings to its royalty participants, the publisher must also be certain that the units reported from the distributor match the units reported by the publisher during the same periods of time.

3. RESERVES AGAINST RETURNS ISSUES-MORE

Almost every distributor will hold back a reserve from payments due a publisher to cover anticipated returns. Often these reserve provisions will not be specific in terms of the amount being held or for what period the reserves are held before being liquidated (meaning when the net amount after actual returns gets paid to the publisher). Here again, the publisher must make certain that the amount that the publisher is entitled to withhold in its agreements with its royalty participants matches or exceeds the amount that the publisher is subject to from its distributor. Failing to do so, the publisher may find that it has to pay its royalty participants on books for which the publisher has not been paid or end up in breach of its contract with those royalty participants. This may be handled by leaving a percentage of reserves unstated in the publisher's agreements with the royalty participants and stating instead that those participants will be paid on net amounts actually received by the publisher. (But see the above discussion under 1 regarding the problems with this language.)

CONCLUSION

There are many other issues including other accounting issues that present themselves in a distribution agreement and you should read "Apples and Oranges: An Analysis of Distribution Agreements" .This article is only intended as a summary of just a few of some all of these issues.

When reviewing distribution and other agreements, it is essential for the publisher to see the larger picture, knowing all of the relevant obligations which that publisher has and in turn making certain that merely entering into the distribution agreement does not jeopardize the publisher in other agreements. It is the wise publisher who seeks out a wise attorney to thoroughly review the proposed distribution agreement and the publisher's corresponding agreements with others to resolve these and other issues.

© 1998 Ivan Hoffman

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This article is not intended as a substitute for legal advice. The specific facts that apply to your matter may make the outcome different than would be anticipated by you. You should consult with an attorney familiar with the issues and the laws.

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No portion of this article may be copied, retransmitted, reposted, duplicated or otherwise used without the express written approval of the author.


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