GSM 5301 – COST BEHAVIOUR – FORREST GUMP versus SIVAJI Forrest Gump was one of Paramount’s biggest hit movies of 1994. In 1995 it was nominated for 13 categories of the Oscar awards and it won six including best picture, best director and best actor awards. One analyst estimated that the film could generate as much as $350 million cash flow for Viacom, Inc. , Paramount’ parent company. The film took nine years to make it to the big screen and the script was then thought as unlikely material for a runway hit movie.
Films are typically distributed to cinemas under an agreement whereby gross box office receipts are split approximately 50/50 between the cinemas and the movie studio. Based on such an agreement, Paramount had received $191 million in gross box office receipts from the cinemas as of December 31 1994. Paramount reports that the film cost $112 million to produce, including approximately $15. 3 million each paid to Tom Hanks and director Robert Zemeckis, and “production overhead” of $14. 6 million. This production overhead is charged to the movie at a rate equal to 15% of other production costs.
Not included in the $112 million production costs were the following expenses associated with the film. Promotion expenses incurred to advertise, premiere, screen, transport and store the film totaled $67 million at the end of 1994. An additional $6. 7 million ‘advertising overhead charge’ (10% of the $67 million promotion expenses) was charged to the film by Paramount. These charges represent the film’s allocation of the studio’s costs of maintaining an in-house advertising department. Paramount also charged the film a ‘distribution fee’ of 32% of its share of gross box office receipts.
This fee is the film’s allocation of the costs incurred by Paramount to maintain its studio-wide distribution services. Finally $6 million interest on the $112 million in production costs was charged to the film by Paramount. Another successful film is Sivaji, the most expensive movie to be made in India, costing US24 million. It was estimated that it raked in US56 million in the first 4 weeks of screening. At Cine Plaza in New Jersey, USA, the premier ticket was priced at US$25 compared to US$9 for a Brad Pitt movie. All tickets were sold out before the show started.
Rajini, the star of the show, gets a salary of US$ 4 million plus 40% of total box office receipts. Shankar, the director gets US$672,000, Rahman, the composer gets US$448,000 and Shreya, the actress gets only 1/6 of what Rahman gets. Other expenses of the movies were special effects costs, outdoor shooting in locations outside India and wages of the crew. Questions: 1. Do you agree that both Sivaji and Forrest Gump were an accounting success? 2. In their original contracts, Tom Hanks and director Zemeckis were to receive $7 million and $5 million respectively, from the movie.
However, after the studio asked the producers to cut their budgets, both Hanks and Zemeckis agreed to forego their standard fees and in place to receive a % of the films gross box office receipts. It was estimated that this new agreement guaranteed each of the two 8% of the studio’s share of gross box office receipt from the film. Assuming that all costs not specifically identified as variable are fixed, what is the contribution margin of Forrest Gump? 3. If Hanks and Zemeckis had demanded their original fees up front instead of taking a % of gross receipts from box office, would Forrest Gump have made money in 1994? . Other individuals associated with the film signed contracts based on a % of ‘net profits’ rather than gross box office receipts. Net profit is the film’s profit after recouping all of the studio’s expenses. For example, Winston Groom, who wrote the novel on which the film is based, received $350,000 plus 3% of the film’s net profit. Eric Roth, the screenwriter, signed a similar contract with a fixed fee plus 5% of the film’s net profit. Based on your calculations above, how much did these two individuals receive from their share of the film’s profit?
How much in gross box office receipts will the studio have to receive from cinemas before Groom and Roth receive any money under the profit participation agreement? 5. Based on the contracts in the film making industry, which type of contract would a studio prefer actors, directors and others associated with a film to have? Why? 6. Which type of contract would the actors, directors and others prefer to have? Why? 7. Since producing movies costs a lot of money how can the production costs be reduced in order to enhance the chances of getting a bank loan?