VIP Motion is a producer and distributor of motion picture films. It specializes in action adventure films popular with males, mostly in the teen and young adult market. While it has only been in business for 7 years, it has produced several moneymaking hits as well as many more minor “B” films that are shown on cable networks and through video rental stores.
VIP Motion has recently completed the production of five new films. This set of five films contains onefilm (“Super Fighters”) that marketing research indicates will be a top box office hit. The other four (SF II, SF III, SF IV, SF V) are “filler” films that will be bundled with the hit and licensed to theatres for exhibition. To receive access to the hit, theatres must agree to show all films a minimum number of times.
In July 2006, VIP Motion entered into an exclusive contract with PlexMedia Theatres, Inc. (PlexMedia), a large theatre chain with approximately 475 theatres across the United States. This contract provided in part as follows:
Agreement: PlexMedia is granted the right, license, and permission to display the five films listed herein during the contract period. In consideration of this contract, VIP Motion will receive:
$5,000,000, payable $2,500,000 upon contract signature and $2,500,000 on September 1, 2006.
$500 for each film showing in each location.
Contract period: The contract period shall be the six months commencing on September 1, 2006.
Limitation on screenings: PlexMedia agrees to show Super Fighters no more than 42 times per theater and the four accompanying films (SF II, SF III, SF IV and SF V) no fewer than 18 times each per theater.
Exclusivity: PlexMedia shall have exclusive screening rights during the contract period. VIP Motion acknowledges that an integral inducement in consideration of the contract is PlexMedia’s interest in beingthe sole source, without competition from other theaters in the market, during the contract period.
At the signing of the contract, PlexMedia paid $2,500,000 of the $5,000,000.
PlexMedia sent checks to VIP Motion for $2,500,000 on September 1,2006, and $5,462,500 on January 20, 2007, along with an audited statement detailing the number of showings as of December 31, 2006. The following is a summary of that information:
Number of Showings
In March 2007, VIP Motion received a demand notice from PlexMedia that all monies previously paid were to be returned or they would file a lawsuit. In their letter, they enclosed a newspaper clipping from a movie theatre in Toronto, Canada that was advertising the set of five films for showing the second week of February 2007.
The CEO of VIP Motion has hired your consulting firm to produce a report on this possible breach
of contract case, including recommendations. Use the report writing guide from the course
website. In your analysis of this case include answers to the following questions:
Q. 1. Did VIP Motion breach the contract? Specifically discuss whether the showing by a
competitor movie chain in Toronto constituted a violation of the VIP Motion and
Q. 2. Assuming the contract is valid, prepare the following financial analyses:
a. Prepare a budget of expected minimum revenues under the contract. Show the
sources of revenues from the set of five films and the fee.
b. What are the general revenue recognition criteria established under Generally
Accepted Accounting Principles (GAAP)
c. How would you apply the GAAP criteria for revenue recognition to account for the
revenues under this contract? Explain your logic for both realizable and earned.
d. Using the logic you developed in part c, calculate the revenue that VIP Motion
should report for the set of five films for the year ended 12/31/2006.
e. For the year ended 12/31/2006, prepare a schedule that shows the cash flows
received from PlexMedia from the contract.
f. Why do cash flows and revenues recognized differ, if they differ under your