Risky Business Becomes Riskier: A New Playbook for How Artists Are Compensated

Making a living as an artist has never been easy — whether in film, music or publishing. But the digital revolution — and to a lesser extent, the global economic crisis of the last two years — is transforming the business of content creation. One of the biggest shifts is in how filmmakers, musicians and writers are compensated. There is an evolving relationship between creator and publisher in which the artist bears a larger percentage of the upfront costs for the production and marketing of his or her work. In this new world, artists’ pay is based to a greater degree on how their product sells in the marketplace, a change that has major implications for the content creators themselves, large firms like Hollywood studios and music labels, and consumers.

“In the past, it used to be the case that content creators got paid the bulk of their salary in advance and whoever made that payment — whether it was the music label, the book publisher or the studio — would take on the risk of marketing and distributing that product,” says Kartik Hosanagar, a Wharton professor of operations and information management. “If [the project] was a success, [the publishers, studios, etc.] kept the upside, and if it was a failure, they bore that failure. Now the upside — or downside — is shared with the content creator.”

This shift is largely driven by the move away from shipping physical products toward increasing digital distribution. In music, the threat of digital piracy has made the business of selling songs more challenging, even as the shift from album sales to digital singles has further undermined traditional revenue streams in the music industry. In film, the decline in home entertainment revenues as consumers switch from DVD purchases to online streaming video has also put pressure on profits. And in book publishing and journalism, the move toward e-readers and online news platforms where revenue models are still in flux has created additional uncertainty. The difficulty in predicting the profitability of these products, Hosanagar notes, means that marketers are trying to shift their cost base. “A lot of firms are asking, ‘How do we move from fixed costs to variable costs?'” he adds. “That makes a lot of sense when you have unpredictable returns.”

The digital shift is upending traditional sales patterns across multiple industries. Revenues for music labels and publishers have been hit the hardest. Global music sales slipped 7.2% to $17 billion in 2009, according to the International Federation of the Phonographic Industry. Meanwhile, in publishing, Albert Greco, professor of marketing at Fordham University Graduate School of Business, figures that adult and juvenile hardcover and paperback book net sales (gross sales less returns of unsold books) hit $9.61 billion in 2010, down from $10.2 billion in 2008. While Greco estimates e-book sales came in at about $600 million last year, up from $78 million two years ago, those less-expensive electronic versions only offset part of the decline. Indeed, bookstore chain Borders filed for bankruptcy this week after failing to retrench itself for the move to digital.

In the movie business, total worldwide box office receipts have been rising over the last few years to $29.9 billion in 2009, according to the Motion Picture Association of America. But the increase has been largely driven by higher ticket prices. In the important North American market, for example, 1.4 billion tickets were sold in 2009, down from 1.57 billion in 2002. 

For the artists, the technology advances cut both ways. Kendall Whitehouse, director of new media at Wharton, says that new digital platforms make it easier for artists to create and distribute their content, whether that is filmmakers shooting with a relatively inexpensive digital camera, or musicians or authors uploading their music or writings directly to the web. The downside, he points out, is trying to find a way to make money on those endeavors. “The ability to create and distribute content has become much more accessible to a broader number of people,” says Whitehouse. “But the ability to generate revenue from that content has become a huge challenge across the board.”

Artists Take Control — and Take on Risk

In the movie business, David Molner, managing director of Screen Capital International, a Beverly Hills-based media financing firm, says Hollywood studios make their money principally through three channels: movie ticket sales, home entertainment revenues and revenue from television distribution to networks like HBO or the “Big Four” of NBC, CBS, ABC and Fox. The home entertainment segment, which was driven for a long time by DVD sales and rentals, has been in decline for years due to both cheaper legal digital downloads and piracy. The economic collapse starting in 2008 and the pullback by advertisers put a further crimp in the TV revenues the studios garnered. At the same time, foreign buyers of distribution rights to U.S. films faced their own financing challenges and became more selective. “For years, the industry was so strong you could argue it could afford to overpay actors,” notes Molner. “That is no longer the case.”

The result is that most highly paid stars are now signing contracts that tie their pay more than ever to the performance of their films. So while actors and actresses used to enjoy big upfront payments and a cut of the gross — a percentage of the revenues a film generated — more are now inking deals with smaller upfront payouts and a cut of the net on a film — that is, a slice of the profits after costs are recouped. Jim Carrey made headlines in Hollywood circles for his contract on the 2008 comedy Yes Man, which came with no upfront payment but a sizable cut of the net profits on the movie. Reports on Tom Cruise’s contract for the upcoming fourth installment of the Mission Impossible franchise note that he is getting a smaller than usual upfront payment in exchange for a cut of the proceeds after the film breaks even. Despite the fact that revenue streams from digital platforms grow over time, Molner says it is unlikely Hollywood stars will see a return of inflated paychecks. “The genie is out of the bottle.”  

This shift makes complete sense on an economic basis, says Wharton marketing professor Jehoshua Eliashberg revealed that star power has had little impact on the success of a film. He found that the reverse is actually true: A good film makes a star — not the other way around. “The key determinant of success for a film is whether you have a good story,” Eliashberg notes.

The biggest beneficiaries of this shift are the studios selling the films. Eric Bradlow, a Wharton marketing professor and co-director of the Wharton Customer Analytics Initiative, says actors now have an incentive to pick better projects, to lobby other talented filmmakers to join the project and to more aggressively promote the films when they debut. “Actors will only pick movies they really believe in,” says Bradlow. At the same time, stars who choose wisely will still clean up. Case in point: Jim Carrey’s take on Yes Man, which performed well at the box office, was estimated to exceed $30 million.

In the music industry, the pressures on the business model have been even more intense. Ed Pierson, a Seattle-based attorney who represents musicians, says the 1990s were the heyday of big advances for musicians. According to Pierson, easy credit and a war for talent led labels to pay escalating upfront fees to musicians. But as music sales began declining, in part due to piracy and digital downloads that allowed consumers to buy just the songs they wanted and not the entire album, the flush times came to an end. The result these days, notes Pierson, is that labels are making fewer advances and the upfront money they do dole out is smaller.

Artists have responded by taking greater control of their business. “The risk is shifting away from the label and toward the artist,” says David Kusek, chief executive officer of online music school Berkleemusic.com and a digital music technologist. Some big names, including the Dave Matthews Band or the Eagles, have created their own recording labels. Lesser known artists have been forced to become entrepreneurs of sorts. Kusek points to firms like ReverbNation and Top Spin Media that have sprung up to help artists sell their music on platforms like iTunes, to promote a group or artist, or to help sell merchandise. Those firms, in many cases, will charge a small upfront fee and then get a cut of the sales the act generates. “It is a different gamble now,” adds Wharton’s Whitehouse. “The corporate players may be gambling a bit less and the artists may be gambling a bit more. But those artists can now have more control over their work than they did before.”

The big labels have responded to the decline in music sales by trying to grab a bigger piece of a larger pie. The centerpiece of this effort is what is known as the 360 deal in which the label gives an advance in return for a cut of pieces of the artist’s revenue stream beyond music sales, including merchandise and touring. Jon Garon, a professor at Hamline University School of Law, says these deals make sense for artists with a mega-brand — like Madonna or the band U2. But he warns that for lesser-known artists, the deals can verge on “predatory” because the advances are modest up front and the artists are giving up sales from channels they never had access to before, with little guarantee the labels will do much to help them maximize those revenue streams. “If these efforts are properly funded, they can work,” notes Garon. “But for that to happen, you need greater fiscal commitment from the label and more effort on the part of the artist.”

A New Era

Pressures in the publishing industry may be more recent, but in many ways the challenges echo those seen in music. In both book publishing and journalism, content is moving to digital platforms, including e-readers like the Kindle and online news sites. Some online sites are using models where journalists are paid a fee up front for their work, with additional compensation paid based on the number of hits their stories generate. This pay for performance shift makes sense in an environment where traffic drives ad revenues. But Whitehouse points out that the model also raises certain questions. While it may be easy to create stories that attract eyeballs because they cover sensational topics, he cautions that “some very important journalism may be necessary but boring.” The traditional city hall beat reporter who sheds light on important government issues, for example, may not attract large numbers of online hits but performs a valuable social service, he says. Classified ads supported a significant percentage of newspaper budgets and helped to fund such efforts in the past, but the loss of those revenues to online platforms like Craigslist limits the resources that can be directed toward those less sexy topics.

For book authors, Wharton’s Hosanagar notes, the new reality is that publishing houses in many cases are making smaller advances up front while agreeing to higher royalty rates on book sales. “This technology is new, and publishers don’t understand [what it means for the business model],” he points out. “The result is that publishers are more risk averse, and the big advance is very rare and is reserved for big names like John Grisham.” In addition, the fact that electronic books often sell for less than paperbacks or hardcovers creates challenges for writers. While some authors are able to win a higher royalty rate for e-books to compensate for that, others are not. And those writers stand to earn less on royalties as consumers transition to the electronic versions. The risk for readers is that talented writers will be given less time and less support to develop over their career.

The new world order poses risk and opportunity for publishers. Fordham’s Greco points out that publishing houses face significant uncertainty now when they publish a new novel because it is difficult to predict how many copies will sell in physical versus electronic form. And since bookstores can typically return unsold books, the publishers run the risk that they will end up with a warehouse full of unsold novels.

On the upside, however, there are new revenue streams to tap. According to Wharton’s Bradlow, information on who is reading which books is now available, thanks to the digital platforms. “Now you know who is reading a book, and you can advertise in that book or recommend other books to those readers,” Bradlow notes. “It changes the entire revenue model so that publishers become cross sellers of products.” That is hardly a skill most publishers have mastered. And it is yet another sign that the rules for making art pay are being rewritten.

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