In a dispute over whether an arbitrator has authority to grant a video game developer and publisher a perpetual license in the intellectual property as a remedy for the developer’s fraud and breaches of contract, the Fifth Circuit found that the arbitrator’s creative award must be upheld under the Federal Arbitration Act, and set forth new guidance for courts confronting similar issues. Timegate Studios, Inc. v. Southpeak Interactive, LLC, __ F.3d __, 2013 WL 1437710 (5th Cir. April 9, 2013).
The developer and publisher had a 35-page contract setting out the terms of their work to create “Section 8,” a “futuristic military-style video game” (not one about affordable housing). The contract called for arbitration. It also gave the developer exclusive ownership of the game’s intellectual property, with the publisher only having a license to market, publish and distribute the game. It prohibited the publisher from preparing “derivative works.”
The game bombed. Soon, the parties found themselves in arbitration over their cross-claims for breach of contract, fraud, and copyright infringement. The arbitrator found that the developer had committed multiple breaches of the contract and had fraudulently misrepresented critical information. It awarded the publisher over $7 million. However, because the arbitrator found the monetary remedy would not fully compensate the publisher, it also “amended” the contract to give both parties a perpetual license for the game’s intellectual property, without any obligation to pay future royalties and without any restrictions on creating sequels, “add-ons” or competing products.
The district court vacated the arbitrator’s award, finding the arbitrator “exceeded [his] powers” within the meaning of Section 10(a)(4) of the FAA. The district court focused on the “perpetual license” granted to both parties, and found that was not a remedy authorized by the contract.
The Fifth Circuit reversed the district court and reinstated the arbitration award. Notably, the Fifth Circuit cited a case it issued almost 20 years ago for the proposition that “the arbitrator’s selection of a particular remedy is given even more deference than his reading of the underlying contract.” That remedy can be vacated only if the remedy is not “a logical means of furthering the aims of the contract.” In this case, the Fifth Circuit found the perpetual license furthered the general aims of the parties’ contract. In particular, because their relationship had become so contentious that future collaboration on sequels and licensing was impossible, the court found the arbitrator’s solution fit “the fundamental goal of the Agreement: mutual access to financial benefits derived from their joint creation and distribution of Section 8.” The court did remind readers that there are other limits on creative arbitration remedies. An arbitrator may not decide an issue that the contract reserves for another decision maker or removes from anyone’s discretion.
There are two key take home points from this case. First, for advocates trying to challenge an arbitration award, this case shows that attacking the remedy provided may be the most difficult basis for vacating an award under Section 10. And second, for drafters of arbitration clauses, think carefully about whether there are some remedies you want to exclude from the arbitrator’s authority and do that explicitly in the arbitration clause.