Napoleon Pictures Limited v. Fox Searchlight Pictures, Inc.

Appellate court affirms trial court’s judgment in dispute over royalties for video sales for 2004 film Napoleon Dynamite, holding that alleged purported oral understanding that higher royalty rate would apply could not be used to modify 10 percent royalty rate in written exhibit to signed distribution agreement.

Plaintiff Napoleon Pictures Limited’s cult classic Napoleon Dynamite premiered at the Sundance Film Festival in 2004 to critical acclaim. Napoleon, and the film’s producer, Jeremy Coon, retained entertainment attorney John Sloss to negotiate a distribution agreement for the film with Fox Searchlight Pictures. Shortly after the film premiered, Sloss and Fox’s vice president, Joseph DeMarco, signed a Term Sheet pursuant to which Fox agreed to pay Napoleon an acquisition price of $4.75 million with 50 percent gross profit participation, and the parties agreed upon a “High Price Product Royalty” of 31.66 percent. Though the Term Sheet did not define that term, the document clearly contemplated that formal documentation would be prepared with a “Participation Definition” for the undefined terms. Sloss, through prior film negotiations with DeMarco and others, was aware that the royalty rate for sales was typically 10 percent. From February through May 2004, the parties exchanged drafts of a formal distribution agreement, which contained various undefined terms. Correspondence between the parties referred to an Exhibit A to the agreement, but Sloss’ firm claimed never to have received a copy, and Coon signed the agreement in May without the exhibit. On the appeal, plaintiff did not contest the fact that Fox had indeed sent a copy of Exhibit A to Sloss’ firm prior to Coon signing the agreement. The agreement stated that no representations were made to induce either party to enter the agreement. A fully executed version was circulated shortly thereafter, attaching a lengthy Exhibit A (containing participation definitions), which, among other things, defined “High Price Sales/Rental Royalty” as video rental royalties and set forth a “Sell-Through Royalty” as 10 percent of monies Fox received for video (both VHS and DVD) sales.

Fox marketed the movie heavily through MTV, and the film proved successful at the box office, generating $45 million in theatrical revenues. After the film went to video, Fox made payments to Napoleon consistent with the 10 percent rate in Exhibit A. In 2005 and 2006, Sloss viewed the payments as too low, but did not contact DeMarco (who died in 2008) to inquire about the payments. In 2006, Napoleon demanded an audit of film revenues. Upon discovering that Fox had applied the 10 percent royalty rate, Napoleon sued Fox in 2011, asserting claims for breach of contract, promissory estoppel, negligent misrepresentation, reformation and an accounting, claiming that the parties understood that a 31.66 percent rate would apply to both rentals and sales. By agreement, the parties tried the case before a referee, who held that the agreement incorporated by reference the definitions in Exhibit A and the 10 percent royalty rate applied to video sales. The Los Angeles Superior Court adopted the referee’s decision and entered judgment. Napoleon appealed to the Court of Appeal, which affirmed in all respects.

The court agreed that there was no breach of contract because the agreement incorporated by reference the participation definitions in Exhibit A. Sloss (and his firm), who had a duty to familiarize himself with the terms of the agreement — including the “easily accessible” Exhibit A — bound Napoleon and Coon to the agreement as their agent. The court observed that there was no plausible reason why the attorneys failed either to examine Exhibit A before Coon signed the Term Sheet or to obtain written clarification of the video sales royalty rate. Furthermore, evidence of a purported oral understanding between Sloss and DeMarco did not control because the agreement was not “reasonably susceptible” to Napoleon’s interpretation. Specifically, the court held, Exhibit A drew a clear distinction between video rental and sales royalties, and it “strains reason” to believe that Sloss, an experienced film agent, would fail to memorialize a contrary understanding.

As to the reformation claim, the court agreed that reformation of the agreement was not warranted on the basis of mutual mistake, as the record did not demonstrate that DeMarco intended for the video sales royalty rate to be anything other than what was expressed in the parties’ written agreement. Sloss could have attempted to resolve the purported misunderstanding with DeMarco when he first noticed royalties were low in 2005 and 2006, but instead waited until after DeMarco died in 2008 to assert the existence of a contrary oral understanding, further undermining his claim as to a mistake. As to the negligent misrepresentation claim, which was premised on DeMarco’s statement to Sloss that the overwhelming majority of home video royalties comes from rentals rather than sales, the court held that DeMarco’s statement was mere speculation, on which Sloss — who himself testified that the video market was “mutating” and “in complete flux” in 2004 — could not have reasonably relied. Finally, the court rejected Napoleon’s challenge to payments made by Fox to MTV to promote the film. Neither the Term Sheet, which specified that distribution expenses were to be deducted from Napoleon’s profit participation, nor Exhibit A, precluded the agreement with MTV.