Isn’t Netflix like Watching TV? Not in the Bill Nye the Science Guy Litigation

Before streaming, before Blu-rays, before DVDs, TV shows were exhibited on . . . television. Back then, mostly, via broadcast, satellite, and premium and basic cable.

So, Suppose

Suppose a TV series was produced in 1993.

And, in the studio agreement for the series, suppose there was no specific distribution fee for streaming. (Back then, of course, streaming wasn’t a “thing.”)

And, 20 or more years later, suppose the studio licensed the series to Netflix for streaming.

When the studio issued a profit statement to the series’ creator, what distribution fee could the studio appropriately charge on Netflix streaming payments?

Nye v. Disney

In Nye v. Walt Disney Co. et al., No. BC673736 (Cal. Super. Feb. 2, 2021) (the “Ruling”), in a case involving the 1993 TV series Bill Nye the Science Guy (the “Series”), a judge recently gave a surprising answer to this question. The decision is apparently one of first impression, and, unless reversed, may solidify studio practice in regard to thousands of other “old” (that is, pre-streaming) motion pictures and TV shows.

Multiple Choice Question

Per the Ruling, what distribution fee can Disney charge on Netflix streaming payments for Bill Nye the Science Guy?

A.        0%

B.        30%

C.        80%

For the answer, continue reading.

Question (Redux) and Answer

What distribution fee can Disney charge on streaming payments from Netflix? The court’s surprising answer is:

C: 80%.

This was the distribution fee that Disney initially opted to charge. In the Ruling, the court accepted Disney’s position.

Only in the Movies and on TV

Outside of entertainment, in what line of business can a distributor routinely charge an 80% distribution fee? I can’t think of any.

In the parties’ 1993 contract, Disney’s TV distribution fees range from 10% (US broadcast network) to 30% (worldwide pay TV) to 35% (domestic syndication) to 40% (foreign TV). So, an 80% distribution fee is an outlier even for that agreement.

20% Royalty / 80% Royalty

In the Ruling, the judge divided Netflix streaming payments, conceptually, in two. He used the term “royalty” to refer to a 20% corridor which was to be included in gross receipts. And, in an unusual turn of phrase, he also used the term “royalty” to refer to the remaining 80%, even though Disney retained this amount and excluded it from gross receipts.

The judge didn’t specifically refer to the 80% as a distribution fee, but, since in his analysis, Disney “would only provide a distribution service [for streaming rights] if it was compensated to do so”, this 80% functions, economically, as a distribution fee. So, that’s how I’ll refer to it here.

Extreme Litigation

The process by which the court reached this result – an 80% distribution fee for streaming – was itself extreme for a case of this size. By February of this year, the parties had submitted more than 400 legal documents to the court, covering thousands of pages, on this distribution fee and other issues. (Caveat: I’ve only read a handful of the documents.) And the Ruling on the 80% distribution fee alone runs 26 pages.

The “Video Device” Category

Key to the Ruling is the judge’s reading of the contractual phrases “Video Device” and “Gross Receipts from Video Device exploitation.” In Nye and Disney’s 1993, VHS / Betamax era contract, a “Video Device” is defined as an “audio visual cassette, video disc or any similar device embodying the Series” (emphasis added). And with respect to revenues from “Video Devices”, the parties’ contract permits Disney to credit only a 20% royalty to gross receipts, while retaining the 80% balance for its own account.

Significance of the 80% Distribution Fee

Disney’s decision to treat streaming as a “Video Device”, of course, resulted in much better economics for the studio than if they had treated streaming as a form of television. What other significance did Disney’s decision have?

It means that the 80% of streaming dollars allocated to Disney as a distribution fee is not available for recoupment of production costs or general marketing costs of the Series. Instead, these costs must be recouped from the remaining 20%. Similarly, that 80% of streaming dollars is not included in Series profits which Nye and other revenue participants share.

Moreover, since under the parties’ contract, the studio retains 50% of profits, if the Series is ultimately profitable, half of what’s left of the remaining 20% will also go to Disney. This potentially raises Disney’s share of Netflix streaming payments to as high as 90%.

Turning now to the other multiple-choice answers:

Why Not a Zero Percent Distribution Fee to Disney?

Why wasn’t the answer, A: 0%? In other words, why wasn’t Disney obliged to completely forego a distribution fee? After all, no distribution fee for streaming was specified in the governing agreement.

That was Nye’s position – that Disney should not charge any distribution fee on payments from Netflix. Nye’s team argued that the studio was sufficiently compensated for streaming revenues by its 50% profit share. In the judge’s view, however, the 1993 agreement, when read as a whole, did not support a reading that would deny Disney a specific distribution fee.

Why Not a 30% Distribution Fee on the Netflix License?

Why wasn’t the answer, B: 30%? This was Disney’s fallback position. Disney argued that if the correct distribution fee wasn’t 80%, then it was 30% – the rate applicable to pay television. But, since the judge accepted Disney’s 80% claim, the fallback fell away.

Why, Then, Apply the Video Device Rate to Netflix Streaming Fees?

So, why is the court’s answer, C: 80% – the rate applicable to home video distribution?

Central to the judge’s analysis (as I understand it) is:

1.        In its profit statements to Nye, Disney initially opted to treat payments from Netflix as revenues from a “Video Device” (defined, you’ll recall, as an “audio visual cassette, video disc or any similar device embodying the Series”).

2.        Per “Video Device” provisions of the contract, Disney is only required to share 20% of revenues from a Video Device and may treat the other 80% as its distribution fee.

3.        Nye’s team did not formulate a better argument. On this point, the judge wrote that if Netflix is

not a video device[], Nye offers no other category of distribution which would make any more sense (emphasis added).

Problem

Drilling further into the parties’ VHS / Betamax era contract, “Gross Receipts from Video Device exploitation” is defined as 20% of sums received from a grant of “the right to manufacture and distribute such Video Devices”. And that definition is problematic. In my view, the Ruling does not adequately support the notion that Netflix acquired “the right to manufacture and distribute” Video Devices of the Series – no matter how these words are sliced or diced. Indeed, in my view, to characterize streaming by Netflix as “manufacture and distribution of videos devices” gives far too much weight to the limited, supporting role that an “audio visual cassette, video disc or any similar device” may play somewhere in the architecture of Netflix’s streaming service.

Disney’s Witness

Even Disney was unable to provide a good answer as to why Netflix’s streaming service is a “Video Device” under the parties’ VHS / Betamax era contract. As the judge noted, a Disney witness with responsibilities in this area

could not point to any specific authorization - other than custom at Disney - for how Disney determined that SVOD [that is, subscription video on demand] should be treated as video device income.

“Video Device” as an Evolutionary Misnomer

Netflix’s DVD-era video rental business may have evolved into its current streaming business. But just because streaming is sometimes referred to as “subscription video on demand” doesn’t mean that Disney should be able to treat Netflix streaming payments as home video revenues, burdening them with an 80% distribution fee. Evolution is not the final word in accounting.

In human evolution, our forebears had tails, and a section of our vertebrae is still referred to as the “tailbone.” Maybe we’d like to have tails, or we think we deserve tails. But we don’t have them.

Call It What It Is

On the facts of this case, Disney’s fallback position, that if the correct distribution fee isn’t 80%, then it’s 30%, strikes me as a more appropriate result. Among other things, it is more closely aligned with

A.        the other economics of the parties’ 1993 contract,

B.        Disney’s distribution fee in the initial medium of exhibition, and

C.        the likely market rate if the studio had subcontracted to a true third-party the right to license streaming rights in the Series.

Like Disney’s team, I think there is at least some sense, under the 1993 contract, to using the 30% pay TV rate as the distribution fee for streaming. And if, instead, the distribution fee for streaming is an “omitted term” that a court is tasked to supply, 30% seems more of a fit than 80%. See Restatement (Second) of Contracts § 204 (1981) (Supplying an Omitted Essential Term).

What This Means for You

If you are an owner of or a revenue participant in an “old” movie or TV show (“old” meaning pre-streaming), and if that movie or show has been or is likely to be streamed, now may be a good time to take a closer look at the old contract or those confusing profit statements. Keep in mind that, per law and governing agreements, you may only have a limited period of time in which to take responsive action.

Coda

There has been speculation that, next up, Disney may exhibit the Series on its Disney+ service. That may open up a new controversy – or a path toward settlement.