EMI Records has lost its appeal against a decision of the High Court given in March last year that it breached certain agreements with Pink Floyd.
Pink Floyd Music Ltd (“PFM”) is a service company for the well known rock group, Pink Floyd. In 1999 PFM and EMI Records Limited (“EMI”) entered into two agreements relating to the exploitation of various catalogue albums by Pink Floyd.
The clauses concerned are:
1. Clause 9(d)(i)
“…[EMI’s] receipts shall be calculated at the so-called ‘source’ so that they shall incorporate the receipt [sic] of EMI’s licensees sub-licensees affiliates or any third party obtaining rights in this respect directly or indirectly from [EMI].”
Following an audit carried out by PFM’s accountants, PFM complained that EMI was applying an incorrect royalty base price when accounting to PFM for digital sales of PFM’s recordings. PFM was entitled to a share of EMI’s receipts from digital sales in accordance with Clause 9(d)(i). EMI had been accounting to PFM for a percentage of the sums that EMI received from its digital distributors (e.g. iTunes). PFM argued that, since the digital distributors were “… licensees, sub-licensees or any third party obtaining rights from EMI”, EMI should have been accounting to PFM for a percentage of the sums received by the digital distributors from their customers (i.e. for a percentage of the retail price paid by the consumer). EMI countered that where any exploitation is carried out by a third party outside of EMI’s control, the royalty should be calculated by reference to the price paid by that third party to EMI.
2. Clause 4.13
“[EMI] warrants undertakes and agrees with PFM … not to couple Records delivered hereunder with other master recordings or to sell in any form other than as current Albums in exactly the same form as to track listing and timing as are delivered hereunder…”
PFM also alleged that EMI was exploiting album tracks as single track digital downloads, streamed tracks and ring tones in breach of Clause 4.13. EMI argued that the restriction in Clause 4.13 related only to physical exploitation and did not apply to digital exploitation. EMI’s reasoning was based on these definitions in the agreements:
(a) “Records”: any sound alone devices manufactured by [EMI] in a configuration now known and currently exploited … derived in whole or in part from the Master Tapes;
(b) “Master Tapes”: duplicate master tapes containing the Recordings suitable for the creation and exploitation of first class Records;
(c) “Recordings”: recordings of [Pink Floyd] musical works short particulars of which are contained in Schedule 2; and
(d) “Album”: any sound alone record derived in whole or in part from the Master Tapes.
PFM brought proceedings against EMI over these two issues. In an application for summary judgment, PFM obtained a declaration from the High Court that PFM’s interpretation of the clauses was correct. EMI appealed against this decision.
Court of Appeal Decision
1. The three Appeal Court judges unanimously dismissed EMI’s appeal on the first issue.
EMI accepted that the natural meaning of Clause 9(d)(i) is that where there is a chain of licensees or purchasers, PFM’s royalty is to be calculated by reference to the last link in the chain (which would usually result in the royalty being calculated by reference to the highest figure). In order for EMI to succeed in its appeal it would have to show the that there had been a clear mistake in the drafting of the relevant provisions of the agreements and even if it could do this, it would also need to show that it was clear what correction to the clause ought to be made. To put it another way, the court would have to be satisfied that the words actually used in the Clause 9(d)(i) produced a result that was so commercially nonsensical that the parties could not have intended it and that they intended some other commercial purpose which can be identified with confidence.
EMI raised the following points in support of its argument that there had been a mistake in the drafting:
(a) The music industry had by 1999 rejected the use of ”retail prices” as the base price for calculating royalties, in favour of a “dealer price”. The court rejected this, noting that as late as 2005 some record companies continued to use retail prices as the basis for calculating royalties.
(b) The agreements provided for a royalty for PFM based on dealer price for sales of physical records. The royalty rate for digital exploitation in the agreements was the same as the rate for physical exploitation. EMI argued that if it was intended that the retail price was to be used as the basis for the calculation of royalties for digital exploitation, EMI would have insisted upon a royalty rate which was approximately 30% lower than the royalty rate enjoyed by PFM for physical exploitation. The court said that it did not know how the royalty rate was settled upon. Even if there was an industry norm, Pink Floyd may have been able to command a more favourable rate and there may be other provisions in the agreements that were more beneficial to EMI. The fact that a particular interpretation of a clause produces an unexpectedly advantageous result for one party is not a good enough reason for concluding that the parties had made a mistake in their drafting.
(c) By 1999, the music industry generally understood the term ”at source” to exclude the receipts of a party that is a user of rights or an “end licensee” (as opposed to a party acting as record company). The court doubted whether there was a clear meaning of the expression within the industry at the time but in any event, the parties had taken the trouble to define the term to expressly include all of EMI’s sub-licensees and third parties obtaining rights in this respect from EMI.
2. The majority of the judges dismissed EMI’s appeal on the second issue.
Lords Neuberger and Laws agreed with EMI that the definition of ”Record” relates to physical product, but they did not agree with EMI in relation to the definition of “Album”. They accepted the High Court’s conclusion that the purpose of Clause 4.13 was to “preserve the integrity of the recordings”. They decided that the use of the word ”record” with a lower case ‘r’ in the definition of “Album” did not necessarily lead one to the definition of “Record”. They thought that, in this instance, the language was ambiguous and that there had been a mistake in the drafting, so that the word ”record” in the definition of ”Album” should be a reference to “Recording”. They drew support for this from the fact that there were several references elsewhere in the agreements to Records which should, in their opinion, be references to Recordings. Given the purpose of the clause, it would offend common sense if the restriction applied to physical exploitation, but not digital exploitation.
Having made this decision, the two judges held that EMI was not entitled to exploit the recordings comprised in the Pink Floyd albums physically or digitally other than as albums in exactly the same form as to track listing and timing, as they were delivered to EMI.
In his dissenting judgment, Lord Carnwath, on the other hand, found that the natural meaning of the word ”record” in the definition of ”Album” suggests a physical item. He found that the High Court may have been right in inferring that the general purpose of the provision was to preserve the artistic integrity of the albums from PFM’s perspective. But this did not tell anything of EMI’s willingness to concede the point. Lord Carnwath could see no reason why the court should depart from the assumption that the words used in the definition of Album mean what they say. He would have allowed the appeal on the second issue.
It is difficult not to sympathise with EMI at least on the second issue. Nevertheless, the Court of Appeal’s decision serves as a reminder that when drafting commercial agreements, it is important that the intention of the parties is accurately reflected in the language of the agreement and that defined terms are used in a consistent manner throughout.