Legal Considerations For Video Game Development

John Di Giacomo:

Hey everyone, this is John Di Giacomo and you are listening to the May It Please The Internet podcast. And I’m joined as always by my business partner, Eric Misterovich. Hey Eric, how are you?

Eric Misterovich:

I’m doing fantastic. How are you?

John Di Giacomo:

I’m good. Today, we are talking about a favorite topic of mine, which is video games and interactive media, and we’re particularly talking about legal considerations for game developers. Eric, did you grow up with Nintendo? What was your video game history?

Eric Misterovich:

I never had a Nintendo, only my friends had it, but I did eventually get a Sega Genesis. So I was a big Sonic guy and then sports, so I was always playing Madden and NHL and the old NBA games, stuff like that.

John Di Giacomo:

Man, I used to have Team USA Basketball for the Genesis. That was amazing.

Eric Misterovich:

Was Genesis the Celtics versus Lakers, do you remember that?

John Di Giacomo:

Yeah.

Eric Misterovich:

Bulls versus… Yeah.

John Di Giacomo:

I think that was it, yeah. With Larry and Magic, right?

Eric Misterovich:

Probably, yeah.

John Di Giacomo:

That was probably that era.

Eric Misterovich:

Yeah, definitely.

John Di Giacomo:

Well, today we’re talking about the modern era, which is much different. Video games and interactive media is a massive industry. We’ve done a bunch of work in this industry and I wanted to kind of talk through some of the stuff that we’ve done and what we’ve seen and how we think about this process. And I think it’s interesting because you have a whole slew, a whole range of different types of people in this industry. And we’ve worked with three guys who met on a message board, built a team, and created a really interesting successful product. We’ve worked with large indie development houses overseas. We’ve done negotiations with EA, for example, on behalf of a creator. So we’ve kind of seen the gamut. And now it’s particularly easy to build games because of great tools like Unity and Unreal Engine and kind of all of the existing assets that are out there that allow you to quickly solve programming and design problems that you used to not be able to. And there’s just a burgeoning industry where you can sell stuff quickly on Steam or on the Nintendo Switch store or on Xbox Game Pass. And I thought it would be helpful for us to discuss just what we think about when we think about video game development. So let’s start with entity formation and kind of corporate governance and investment. So Eric, we’re starting a game studio, what’s step one? What do we do?

Eric Misterovich:

The first step is to figure out who is going to own what and get a formal entity created and document that ownership. Listen, the reality is a lot of projects start without this step being completed. And sometimes it ends up working out fine and everyone sticks to the plan and it’s all great. Sometimes that doesn’t happen. So I don’t think this should be a step that slows people down, but get it in writing. At the very least, get your ownership in writing. Now, what you really should do is get that entity formed, have a formal operating agreement, and if you’re taking on investment, get all of this done by a professional. Because if this turns out to be a success, this part of it, if it’s not done right, is going to create huge problems down the road.

John Di Giacomo:

Yeah, I think it cannot be stressed enough. We had a case a few years ago, so relatively recently, where a indie developer was formed by three partners and they wrote this kind of napkin agreement that didn’t really specify who owned what. And our client had designed all of the graphics for the game. He was the lead illustrator and artist. And the game started selling. They had entered into an agreement with a publisher, it was selling very well on Steam. And our client came to us and said, “Hey, I’m not getting paid. I haven’t seen a single dime.” So we looked at the issue and we realized that copyright rights had not been assigned to the entity and that our client was not an employee of the company, he was just an independent contractor. So we were able to get the game down from Steam overnight, which stopped sales, pushed the entire discussion to a head and got our client paid when he wasn’t being paid, because otherwise that game wasn’t going to go back up and sell.

So in that situation, it would’ve been better to get all the rights in the right place, get all the corporate documents in the right place, and really ensure that you had adequate rights to sell that game and that there were no issues that would disrupt the sale in the future. So it’s very important to get this done at the outset.

Eric Misterovich:

Yeah, that’s a huge… So many issues flow from the failure to do this first step. What we’re talking about is entity formation and an operating agreement. Okay, most people probably think that’s boring, whatever, we all like each other. But when you don’t do that and it’s not tied up in who owns what and where are the rights held, now it defaults into a copyright infringement issue where one developer owns the copyright to what he created, and if he pulls the plug, it’s over. He has the rights to do that. He created that work. It doesn’t belong to anybody else. And I don’t think people would expect that outcome from failing to get an LLC in place.

John Di Giacomo:

They never see it coming. And the same is true for investment. Not getting that LLC or corporate paperwork in order makes investment really difficult because a sophisticated provider of capital is going to come to a deal and want to see that information. They want to see what is the current capital structure? What is the cap table? Where’s this investment money going? Is there any risk to us because there’s not adequate paperwork or there’s some underlying liability that we haven’t thought about? So getting this stuff done is obviously very important for that reason as well.

So next we’re going to talk about publishing, licensing, and distribution. So the games business, it’s a lot like the movie business where you’ve got creators, you’ve got publishers. But there’s a lot of smaller indie publishers who are just there to help with marketing and getting your stuff on Steam or on some other store. What do you think developers should be thinking about when they talk about getting into a publishing deal or starting to distribute their product?

Eric Misterovich:

They should be thinking about what kind of control they’re going to have and are they giving up the farm here. What we often find are people come to us with problems that are somewhat self-inflicted, and then they ask us, “How do we correct it?” And it’s the vitamins versus the medicine, and taking those vitamins will prevent the problems, and the medicine, you might be in for surgery to correct what went wrong here. But understanding what they’re giving away, how much they’re getting paid, how long this contract lasts, what are the obligations of the publisher, are they even forced to hit any targets, is there any kind of obligations on them to do a good job? And sometimes people won’t take the step to bring in an attorney. I also think people think somehow lawyering it up is wrong, it’s not what they’re about, they don’t want to be like that, things like that. And man, that frustrates me so much, because this is normal, this is how it’s done. And to do it without taking that step, you’re just taking a risk that things are going to go to shit, and that it is a self-inflicted wound at that point.

John Di Giacomo:

Yeah, I think that’s absolutely right. I remember a specific incident where we represented a very famous game developer who had created a very addictive, well sold mobile game that became very famous, was published by one of the AAA studios. And the developer came to me and he said, “Hey, I’ve got this agreement with this huge publisher, and I have this reversion of rights that allows me to self-publish the sequel to this game.” And I looked at the agreement and I said, “No, you don’t. You literally do not have that right. This agreement says that they have the right to make a sequel to the game. They can sit on that right for as long as they want to and it doesn’t revert to you.” And he was very upset with me. He said, “Look, this was what I was supposed to get,” sent me a number of emails where that was what he was promised. And then I had to explain to him, “Look, this is what the publishing agreement says. There is an integration clause that says that any external communication doesn’t modify the terms of the agreement. It’s the sole source of the terms of the agreement between the parties.” And he was very upset with me. So yeah, not having an attorney present or working on that negotiation with you can be fatal to your ability to make money on some IP that you may have created.

Eric Misterovich:

Yeah, it’s taking that step. It’s an added expense. Yeah, it’s going to slow things down a little bit. But man, if you have a good relationship with an attorney and stress the importance of timing, I think that’s something that we are particularly sensitive to is speed. And if your attorney isn’t sensitive to that, then you got to find a new one. It’s not unreasonable to come to an attorney and say, “This is really important. I really need this done quickly. Tell me how quickly you can do this.” Sometimes it is unreasonable to expect an enormous project to be done overnight. It’s certainly not unreasonable to have a conversation about how quickly can you get this done realistically? And I usually tell people, anytime we have a new project, “Give me your timetable. I assume the timetable is as soon as possible, but let me know if there’s hard deadlines.” And people, it’s okay to have these kinds of conversations with your attorneys. We want to do whatever you need. And we have to have an open communication about that.

I just say that because I think sometimes people… The attorney-client relationship sometimes is weird and people may feel uneasy raising that concern or making that demand. Now other people don’t feel any concern at all about making that demand and really push us. That’s fine, I’d rather all be on the same page. So get things done. Don’t let the fear of this is going to take too long just set you up for failure later.

John Di Giacomo:

Yeah, I agree entirely. And the publisher is certainly going to have representation. So they have a whole legal department that’s set up to ensure that they have what they need to publish games. So it’s important for you to have that type of representation on your side as well. Next, let’s talk about legal compliance and regulation. There’s a push in recent years to better regulate the games industry with respect to things like micro transactions and privacy law, age rating, loot boxes, sweepstakes, gambling laws, those types of things. And I think it’s important to make sure that you understand your obligations as a developer or as a publisher to comply with these laws, and where the line is drawn between games of skill, games of chance, what you can do with respect to biometric information or collecting information from your users to be used in game or facial recognition or whatever it might be. And it’s kind of an open world currently. So I suspect we’ll see more regulation within this category soon.

Eric Misterovich:

Yeah, what comes to my mind here is the old saying of you know you’ve made it when you’ve been sued, because if you’ve made it and you’re popular and you have some noncompliance with certain laws or regulations, you have a class action lawsuit staring at you. Because plaintiffs’ attorneys, that’s what they want to find, and if you’re making money, you’re going to need to settle that case because it may impact your ability to be distributed on platforms and things like this. So you need to be in compliance and get in compliance without the demand from a class action lawsuit.

John Di Giacomo:

Yeah, so let’s talk about employment because I think it’s another area of concern that developers never really think about. And we talked a little bit earlier about assigning copyright rights and independent contractors versus employees. But just simple things like getting agreements in place, making sure that if you are using external developers to produce assets for you, that you have adequate rights to those. Or if you are working with employees, having adequate employment policies and human resource policies and helping you resolve employment disputes, those are the areas where I think you should be looking for legal advice and legal help.

And a lot of developers just do a terrible job at this. And it’s quite frankly why you see a lot of controversy, like there was gamergate and there’s a lot of allegations of sexual harassment or sexually charged workplaces within game development studios, or allegations about crunch time or being overworked or managers being disrespectful to developers. All that stuff carries with it legal consequences, which could bet the business legal consequences. So it’s very important to ensure that you’ve had somebody look at your employment practices, understand it, and then provide you with advice on it.

Eric Misterovich:

Yeah, and this is growing up as a business in terms of making sure these T’s are crossed and I’s are dotted and that this is under control. Employment law can be tough, especially in a regulatory area where benefits and things like this, it gets burdensome quickly if you’re growing. And yeah, you got to pay attention to it, got to take care of it.

John Di Giacomo:

So let’s talk a little bit about IP and then disputes and litigation in general. IP, I just love in this industry because sometimes you just get to work with super fun IP. And we have been very fortunate to work with some really cool developers. One of the developers that we’ve worked with has an IP that I was in love with when I was a kid, and I just feel so fortunate that I had an opportunity to work with them. They were able to produce a really cool game based on this IP, brought it back to life. So again, this is an area where an attorney can really help you. You have to identify what you have and then protect it. And it’s just that simple. So things like trademark registration, international trademark registration, copyright registration of main characters, storylines, creative assets, scripts, etc., those are places where we can really help. And it’s an area that obviously if you are building a business based around IP, you really have to take seriously and you just have to get it done right at the outset.

Eric Misterovich:

Yeah, and I think it’s a good idea in this kind of setting to really have a good relationship with your attorney where you can have conversations about IP and get a little bit of understanding of how things work. Because when you’re able to just kind of diagnose, oh, this is the time to talk to someone a little bit faster and a little bit better, this is a protectable asset, this is kind of going too far or is this going to far? Having those ability just to have dinner, have some drinks with your attorney or whatever, and understand how this whole thing works, it gives you that little bit of an advantage in knowing kind of what buttons to press and how to build this business. Like you said, it’s almost entirely dependent on this IP and having a comfortable understanding, not saying you need to be an expert, but a comfortable understanding of the basics of how this stuff works, I think we’re really give you an advantage going forward.

John Di Giacomo:

Yeah, completely agree. And also, it’s really important to ensure that your attorney understands your IP and your industry. Because when it comes to litigation, you are going to have to have somebody with deep knowledge of not just how your industry works, but how IP problems arise within your industry. So a great example is Bungee’s lawsuit against cheaters. Eric, you looked at this recently. But if you don’t understand how cheating works within a Bungee game like Destiny 2, then how are you going to prosecute an IP case about it? You need somebody that can dig into the details and understand what is a cheat look like? Where is it sold? Where does the revenue go? How do I freeze the revenue? How do I ensure that this doesn’t happen again? How do I chase it down quickly? Whether it’s cheats or a leak, whether it’s source code leak or just general like BitTorrent piracy, you’re going to need somebody who can quickly and efficiently solve those problems for you and not somebody that has no relationship to that industry and doesn’t really get how those things work.

Eric Misterovich:

Yeah, yeah, that’s a good point. The getting to know each other really is a two-way street, and I want to learn, and whoever your attorney should be genuinely interested in your business and how it works. And that’s not just putting on the charm at dinner. That is what you said, we want to know these things because it helps us give you better advice to truly know how the product works, how it comes to be, all the moving pieces that get to that end product. That’s when we can provide the best advice.

John Di Giacomo:

And I think the final category that we should talk about is M & A. M & A is very rampant in this industry. There’s been a lot of acquisitions recently, though they were AAA acquisitions, with Microsoft talking about buying Activision Blizzard and acquisition of the Call of Duty franchise, and there’s a lot of antitrust activity around these acquisitions recently. What do you think these clients, these smaller developers should know about M & A work?

Eric Misterovich:

Yeah, M & A, I think most, not most, but listen, if you plan on selling a business one day, then you should have this conversational talk about what is this process? And you should have that early. And so you should know, well, here’s where I need to get my house in order for it to be ready for due diligence. And then time goes on, then you have a more discussion of what is due diligence. And then you get into, well, how is this agreement actually structured? What am I on the hook for? It doesn’t all have to come at once, but that baseline of I roughly know what is coming, will allow you to keep things in order, especially for due diligence, because there’s due diligence, all the topics we just discussed, is going to deep dive into each one of them. And having your ducks in a row of these are the documents regarding regulatory issues, here is our cap table and our investment contracts, getting all of that together and keeping it organized, you’re a more attractive asset to buy. Of course, the numbers are the most important part, but if someone lifts the hood and it’s a complete shit show, you’re going to have a problem selling your business.

John Di Giacomo:

Yeah, the same is true for IP. If you don’t have your IP protected, registered, cleared, you’re going to have a hell of a time selling a game business. Because that’s what they’re looking for. You can replace a developer, you can replace a hundred percent of a studio and immediately sub in, in most cases, a successful studio in its place. Although, now I’m saying this, I’m thinking of examples where that didn’t work, but you could do that theoretically. But if you don’t have the IP, you’re just not worth anything. Your business is not worth anything at all to a acquiring company. So securing that IP is just absolutely key, and I cannot stress enough how seriously you should take it early on in your business.

Eric Misterovich:

Absolutely.

John Di Giacomo:

Well, thanks Eric. I think that’s somewhat helpful. Again, this is the May It Please The Internet podcast. That’s all we have for today, and we look forward to you listening next time.