Our video game studio clients often come to us with plans to split game profits among the team members but require advice on the form this split should take.  Three main approaches exist for structuring your video game profit share:

1.  Profit Sharing Agreement

The most common approach is the Profit Sharing Agreement.  This agreement is between the company and each person participating in the profit share and sets out the profit sharing terms and contains key terms such as:

• How profit is calculated.  For example, revenue received by the company from sales of the game minus publisher royalties, platform fees, certain operating costs etc.
• What constitutes the “game”.  Does the game include DLC, HD/upscaled/remastered versions, sequels etc.?
• Adjustment of each person’s percentage if future participants added. 
• What is the profit sharing duration?
• Is there a cap on payouts?
• Termination upon acquisition of the company or the game, perhaps with a lump payout.
• What happens if the company receives investment?

The benefit to this approach is that the participants are not shareholders in the company and, as a result, do not have a say in how the company is operated or a right to receive payouts from future games developed by the company.  However, the parties need to ensure that the agreement is thorough in its scope as any ambiguity or overlooked scenario could create major headaches in the future.

2.   Create a Separate Company for each Game

Under this approach, a separate company is created for each game you develop, with the commonality being that the main company you incorporated (the studio) is a majority shareholder (51% and up) in each of these separate companies.  For example: Studio Company owns 66 2/3% of Game 1 Company.  The separate company would receive profits from the game and distribute them to the shareholders based simply upon their shareholding (although more complex special rights and restrictions could also be put in place).  Intellectual property for each game may rest with the separate company or the main company.  Profits from the game would be distributed as a dividend to the shareholders.

This approach works well if each person is expecting an interest in the company developing the game with the benefit that these persons cannot participate in future games developed by the main company (which may be unrelated to the current game).  However, when pursuing this approach, it is important to obtain tax advice to ensure that distribution of the profits between the companies is structured efficiently.

3.  Issue Shares in your Company to Profit Share Participants

Under this approach, a special class of non-voting share (the profit share class)  is issued to the profit share participants and contains a dividend right to receive a portion of game profits, which would contain similar terms as described in approach 1 above.  This approach is similar to approach 2 above except that no separate company is created.  However, additional terms are also required, such as:

• Share retractability:  this allows the company to repurchase the profit sharing shares in the future.
• Voting trust:  this takes control of some or all of the voting rights of the non-voting shareholders  (see non-voting shareholder’s limited voting rights).

The problem with this approach stems from the fact that the profit share participants may only be involved in one game but the studio may continue on to make other games, which the profit share participant should not receive a financial benefit from.  Further, by being a shareholder (without detailed share rights and restrictions), the shareholder may be able to participate in profits from future, unrelated titles, benefit from sale of the company and/or exert their rights as a shareholder to participate in the company’s direction.  To alleviate these problems, complex terms and agreements are likely needed (see retractability and the voting trust) to ensure that the profit share shareholders only benefit from the game they worked on and have a limited right, if any, to participate in the company’s direction.

As a first step, it’s critical to recognize that your profit sharing agreement needs to be documented in writing.  Second, you must reflect on the relationship you desire with the profit sharing participants (duration, scope of their involvement etc.) and analyze that relationship relative to the features of each of the above approaches.

When creating realistic video games, developers often desire to render real-world items digitally but neglect considering rights held in these items.  A failure to investigate rights held in real-world items is not limited to smaller studios as major developers (ex. Activision) have been sued for using real-world items in their games, such as AM General’s Hummer and certain firearms.   To assist in avoiding these issues, consider the following steps when inserting real-world items into your game:

1.  Check to see if the item you are adding to the game is based on a real-world item.  For example, modes of transportation, firearms and luxury goods in games could all be based off a real-world item.
2. When purchasing assets from marketplaces be sure to ensure that the asset creator has not  infringed the rights of third parties.  This has been an issue on the UE marketplace leading to an audit of most firearm asset packages.
3. If your item is based on a real-world item, determine the rights held in that item.  For example, the design could be covered by a design patent while the name or logo could be trademarked.
4. If there are rights held in the item be sure to secure a license from the rights holder before proceeding, otherwise you risk litigation and will be running afoul of most representations and warranties contained in publishing and platform agreements you sign.

In many cases, it’s cheaper to design your own items rather than seeking a license for real-world items, which may not be granted.  Take the GTA series and its use of cars of its own design – it’s doubtful that an automaker would license their rights to a game in which the same car is used to commit (digital) criminal offences, including murder.

If you are in doubt whether the particular item or its name is protected, be sure to contact your legal counsel before spending time integrating it into your game.

Streamers are increasingly important to the success of indie video games and our clients often encourage streaming as a way to increase exposure without substantial expense.  However, recent streamer controversies illustrate the need for developers to include an explicit streaming license and code of conduct within the game’s End User License Agreement (EULA) with broad grounds for termination.

What is a streaming license?  A streaming license expressly grants users a license to stream the video game but makes it clear that this license can be revoked at any time, without notice or compensation.  Without this language, substantial ambiguity remains concerning the scope of the license and impact of termination.  Consider the following example:

DEVELOPER grants you a license to publicly display the Game on online video streaming websites, such as youtube.com and twitch.com, and social media, such as tweeting a GIF. DEVELOPER may terminate or modify the scope of this license at any time without notice or compensation and will not be liable to you or any third party for any loss incurred relating thereto.

You can also draft the license to fit your company’s particular needs.  For example, the streaming license could prohibit monetization of the stream.

Do you have a Code of Conduct?  In addition to a streaming license, we recommend that the EULA contain a user code of conduct that prohibits certain conduct, such as profanity, nudity etc.  Breach of this code could provide a basis for terminating a user’s streaming license, although not the only basis.

Can’t I just use the DMCA?  Yes, a Digital Millennium Copyright Act (DMCA) claim is the quickest way to secure removal of a stream and  a clear streaming license (with termination language) provides a clear basis for making the DMCA claim.  Without a streaming license, unnecessary ambiguity remains concerning the impact of termination (for example, could liability follow if you terminate a lucrative stream that was previously permitted?).

In sum:  It benefits your streaming community to receive a clear streaming license and to understand the basis upon which the license can be used and revoked.  While you can remove an offensive stream without such a clause (under the DMCA), ambiguity does little to benefit your company or streaming community.

Anti-dilution protections are frequently granted to investors and forgotten by founders until their friendly lawyer brings it up.  In many cases, anti-dilution protections are reasonable but in other cases can impose a substantial burden on the company, even impacting the appeal of the company to future investors.

Generally, anti-dilution protections protect an investor from the dilution of the investor’s interest.  When VC’s speak about anti-dilution they are usually referring to price-based anti-dilution protections, which protect from a decrease in share price in a future financing (known as a “down-round”) by, ultimately, increasing the number of shares issued to previous round investors.  This down-round protection is seen in Series A financings and Brad Feld has a great post covering the details.

What is FAR less common, and almost universally viewed as inappropriate, is an absolute anti-dilution clause.  This type of dilution protection guarantees the investor a certain percentage of the company, usually for a fixed time.  For example:

Startup hereby agrees to issue additional shares of Common Stock (for no additional consideration) to maintain Investor’s ownership interest at 10% of the total capital stock (calculated on a fully-diluted basis, including all options, warrants, convertible securities and other rights to acquire capital stock).

In the above case, the investor maintains a 10% interest in the company without a need to make additional payments.  What if the company sells shares to a new investor?  New shares are issued to the previous investor.  What if the company issues options to employees?  New shares are issued to the previous investor.  The absolute anti-dilution clause is viewed as inappropriate as it protects the investor against ALL dilutive events, including those every investor expects to occur, rather than a limited set of dilutive events, such as a down-round.

The absolute anti-dilution clause also runs the risk of rendering your company less appealing to investors.  An investor may reconsider an investment knowing that they will be immediately diluted by the previous investor’s absolute anti-dilution clause.  This is especially the case if the new investor is increasing the company share price and, in turn, the value of the previous investor’s shares.

I usually encounter these absolute anti-dilution clauses in connection with an accelerator program investment.  In this scenario, clients tend to accept the terms as acceptance to the program is viewed as worth the cost (which is a reasonable position to take).  Nonetheless, it’s important for companies to understand the impact of absolute anti-dilution clauses and to weigh the pros and cons of any investment in light of an absolute anti-dilution clause before proceeding further.