Timegate Studios, Inc. v. Southpeak Interactive, LLC et al.

Due to fraudulent conduct and an “extraordinary” breach of a development agreement, the U.S. Court of Appeals for the Fifth Circuit reversed a district court’s vacatur of an arbitrator’s award granting a perpetual license to a video game’s intellectual property. Timegate Studios, Inc. v. Southpeak Interactive, LLC et al., Case No. 12-20256 (5th Cir., Apr. 9, 2013) (Davis, J.).

In June 2007, Timegate Studios entered into an agreement with Gone Off Deep LLC d/b/a Gamecock Media Group (later acquired by Southpeak Interactive LLC) to develop and market a futuristic military-style video game entitled “Section 8.” Per the agreement, Timegate was required to design and develop the video game, and Gamecock was to provide most of the investment funding for the game’s development and was also primarily responsible for manufacturing, marketing, distributing and selling the game after its release. The agreement granted Gamecock a worldwide license to “Section 8” for a predetermined term, and Timegate was to remain the exclusive owner of the “Section 8” intellectual property.

When sales of “Section 8” failed to meet expectations upon its release in 2009, the parties’ relationship began to deteriorate. Timegate subsequently filed suit against Gamecock, alleging multiple breaches of the agreement. Gamecock countered by asserting that it was Timegate that breached and subsequently requested that the matter be stayed in the district court and submitted to arbitration in accordance with the arbitration clause of the agreement. The arbitration clause contained no limitations relevant to the current dispute.

Following an eight-day arbitration hearing, the arbitrator determined that Timegate had engaged in several fraudulent misrepresentations and contractual breaches, including inducing Gamecock into entering into the agreement by fraud. The arbitrator awarded Gamecock $7.35 million and, finding the monetary award failed to fully compensate Gamecock for Timegate’s fraud, also amended the agreement to provide Gamecock with a perpetual license in the intellectual property of “Section 8.” Timegate asked the district court to vacate the arbitrator’s award on the grounds that the arbitrator exceeded his authority. The district court agreed, concluding that the arbitrator’s creation of the perpetual license, when the agreement required only a temporary license, was not rationally rooted in the agreement and therefore inconsistent with its fundamental purpose. This time Gamecock appealed.

On appeal, the 5th Circuit found the perpetual license to be rationally rooted in the “essence” of the agreement, which was to provide mutual access to financial benefits derived from the joint creation and distribution of “Section 8.” Giving deference to the arbitrator’s findings, the court concluded that Timegate’s relationship with Gamecock had become so contentious that the collaborative relationship presupposed by the agreement was no longer possible and the perpetual license was an attempt by the arbitrator to restore the fundamental goal and essence of the agreement.

Because “Timegate committed an extraordinary breach of the Agreement, […] an equally extraordinary realignment of the parties’ original rights [was] necessary to preserve the essence of the Agreement,” the court commented. Since the parties were unable to work together in a cooperative effort to profit from the venture, the only way to give Gamecock the opportunity to benefit from the future development of “Section 8” was to allow it to independently market the game via the perpetual license granted by the arbitrator.