Viacom Had No Obligation to Maximize Payout to Rock Band Developer

, The Legal Intelligencer


Delaware Justice Jack B. Jacobs
Delaware Justice Jack B. Jacobs

Viacom International Inc. had no obligation to renegotiate an agreement with Electronic Arts Inc. to distribute the video game Rock Band in order to increase earn-out payments to shareholders of the game's developer, Harmonix Music Systems Inc., the Delaware Supreme Court has ruled.

The high court's ruling affirmed a November 2011 Delaware Court of Chancery decision dismissing the claims of Harmonix's shareholders who sought to recoup millions in earn-out payments by challenging Viacom's decision not to continue its marketing agreement with Electronic Arts.

In dismissing the claim, the en banc court said that the plaintiff, Walter Winshall, an early investor in Harmonix who was designated as proxy on behalf of the company's shareholders, failed to prove Viacom violated the implied covenant of good faith. The court noted that there was no language in Viacom's merger agreement with Harmonix dictating that the companies were required to maximize the earn-out payments.

"The parties to the merger agreement could have created such an obligation in their contract, but they did not," said Justice Jack B. Jacobs. "Nothing in the merger agreement states, or could be read to imply, that Viacom or Harmonix must conduct their business post-merger, so as to maximize the amount of the selling shareholder's earn-out payments."

The en banc court, including Superior Court President Judge James T. Vaughn Jr., issued the opinion October 8 in Winshall v. Viacom International.

In a 2010 complaint, filed in the Chancery Court, Harmonix alleged that Viacom breached the implied covenant of good faith and fair dealing. Under the 2006 merger agreement, Viacom promised Harmonix's shareholders an upfront payment of $175 million for their shares, as well as the contingent right to receive uncapped earn-out payments based on Harmonix's financial performance in the two years following the merger, according to court documents.

Harmonix released Rock Band in 2007 and already had an agreement in place with Electronic Arts to distribute Rock Band through March 2010. However, Electronic Arts wanted to renegotiate the contract in 2008 in order to increase its rights to the game and its sequels, according to court documents. Harmonix's shareholders allege that Viacom thwarted their efforts to renegotiate a contract that would have increased their earn-out payments for 2008. The appellants also allege that under Viacom's direction, Harmonix negotiated a contract that reduced Harmonix's distribution fees in upcoming years after the earn-out period had expired.

Chancery Court Chancellor Leo E. Strine Jr. dismissed the shareholder lawsuit in a November 2011 decision, ruling that Viacom and Harmonix were not obligated to increase their earn-out payments for 2008 regardless of the opportunities offered to the defendants.

During oral arguments in June, Shawn J. Rabin of Susman Godfrey argued on behalf of Harmonix shareholders that Viacom purposely sought to frustrate his clients' efforts to recoup all of the earn-out payments they were entitled to under the 2006 merger agreement.

Rabin also asserted the trial court should not have considered the original EA agreement, because it was not integral to the plaintiff's implied covenant claim. However, the court rejected this argument, ruling that the original EA agreement was essential to the case because the plaintiff contended that Harmonix and Viacom breached their fiduciary duties when they amended the original agreement.

"The original EA agreement was essential to Winshall's claim because had the defendants not entered into that agreement, Winshall would not be able to contend that, in the agreement to amend the original EA agreement, the defendants breached an implied covenant under the merger agreement," Jacobs said.

Viacom had filed a cross-appeal challenging Strine's rejection of its indemnification claims. The media giant alleged that it was entitled to indemnification for breaches of representations and warranties made by Harmonix's selling shareholders in the merger agreement. However, Strine said the merger agreement included indemnification language, but did not obligate Harmonix to defend Viacom in court proceedings. The Supreme Court upheld his decision.

"The Court of Chancery was unable to locate any such provision in the merger agreement and neither can we," Jacobs said. "Where parties to a merger agreement intend to create separate duties to indemnify and defend, they employ an 'indemnify and defend against claims' clause or similar language to that effect. But where, as here, the contract expressly imposes only a duty to 'indemnify' as opposed to 'indemnify and defend,' the courts generally hold that there is no duty to defend."

In addition to Rabin, the Harmonix shareholders were represented by Gregory V. Varallo of Richards, Layton & Finger, former Chancery Court Chancellor William B. Chandler III of Wilson Sonsini Goodrich & Rosati and David M. Schiffman of Sidley Austin.
Viacom was represented by Stephen P. Lamb and Leslie G. Fagen of Paul, Weiss, Rifkind, Wharton & Garrison.

This article first appeared in Delaware Business Court Insider, a Legal sibling publication.


Jeff Mordock can be contacted at 215-557-2485 or Follow him on Twitter @JeffMordockTLI.

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