Choosing the wrong type of contract could choke the investments in a project. The American film industry could be a role model, with its different contracts adapted to different needs.

We aren’t talking small change when the American motion picture industry embarks upon an ambitious new film project.

“The players in Hollywood invest vast sums in production and marketing of high-risk projects,” says researcher Terje Gaustad at the BI Norwegian Business School.

If a Hollywood production flops with audiences, large parts of the investments could be lost. That is why the industry has developed a set of contracts adapted to various investment needs.

In his doctoral project, Gaustad investigated whether and how various contract types impact the size of investments and value creation in selected film projects.

American films

Gaustad has compiled publically available information about contracts entered into between production companies and distributors in the American film industry from 1992 to 2012.

The material comes from articles in industry periodicals and discussions in relevant books. He has also reviewed standard contracts in the industry and has interviewed key production companies and studio heads.

The researcher’s study examined four hundred articles about signed contracts, and has identified two main contract types:

• Market-based contracts (Acquisition Contracting) which govern commercial purchases and sales between the parties.
• Integrated contracts (Output Contracting) which, in addition to purchase and sale, govern collaboration between the parties.

The study shows that the various contract types differ from each other in how they distribute uncertainty between the parties and to what degree they allow the parties to coordinate.

“The contracts’ ability to distribute uncertainty and ensure coordination of the parties’ activities plays an important role in investments and value creation in the projects. Here we have something to learn from Hollywood,” says Gaustad.

The type of contract is also significant for access to scarce resources such as famous actors and reputable directors.

Strategic contract application

The simple, market-based contract types often work best for small projects that are not very complex, and do not require a lot of coordination and major investments.

“If you use simple, market-based contracts for larger and more complex projects, you run the risk of not being able to implement the project,” says the BI researcher.

In other words, if you choose the wrong type of contract, you could risk not securing necessary investments.

For larger, more complex projects, it would be sensible to use contract types that distribute uncertainty between the parties and which ensure coordination of the partners’ activities.

Advice for project managers

According to Gaustad, the study shows that the choice of contract type can be used strategically. He offers the following practical advice for those who are getting started on new projects in cooperation with others.

• Decide what you want to do. Make sure you have the right contract types in place to realise this.
• Do not necessarily settle for the contract you are offered and let it determine your options.

Mini Facts:
Terje Gaustad defended 11 September 2013 for a doctoral degree at BI. He completed his doctoral work in the PhD specialization, "Strategic management".

Professor Gabriel RG Benito, BI has been the main supervisor.

Reference:
Terje Gaustad: Creating the Image: A Transaction Cost Analysis of Joint Value Creation in the Motion Picture Industry, Series of Dissertation 3/2013. BI Norwegian Business School.

 

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