Former Harmonix shareholders filed a lawsuit against Viacom last week, accusing the company of trying to find a slick way to get out of paying performance-based bonuses. According to a lengthy Gamasutra report, the group includes Harmonix founders Alex Rigopulos and Eran Egozy, as well as other early funders of the Boston-based developer. The group claims that Viacom is manipulating costs after the initial success of Rock Band to avoid a potentially giant earn-out payment.
The complaint stems from a 2006 acquisition deal that has soured over the past four years as the Rock Band franchise began to wane in popularity. Viacom acquired Harmonix in September 2006 for $175 million and the promises of bonuses based on the company’s performance. According to the complaint, the earn-out formula was supposed to be 3.5 times any gross profit in excess of $32 million earned in 2007.
The group is seeking to "recover damages arising from Viacom’s manipulation of these earn-out payments by diverting opportunities from Harmonix for its own benefit in breach of the implied covenant of good faith and fair dealing that inheres in Viacom’s contract with Harmonix."
The Rock Band franchise generated over $1 billion in sales in North America through March 2009, according to Viacom. Viacom sent Harmonix’s shareholders $150 million for 2007 earn-out payments for 2007, but set aside over $200 million, according to SEC filings. Nevertheless, the company has never paid any money for the 2008 earn-out. In financial statements starting in 2010, Viacom claimed that it was entitled to a "refund of a substantial portion of amounts previously paid" despite not publically stating why.
The issue of earn-out payments has been referred to arbitration. The agreement covered the years 2007 and 2008, based sales and profits from the Rock Band franchise during those periods.
Obviously, the relationship between Harmonix and Viacom is no longer amicable, as evidenced in Viacom’s public statements that it wanted to sell the Rock Band maker. Viacom CEO Philippe Dauman claimed recently that "the console game business requires an expertise and scale that we don’t have."
However, there is more funny business that the group claims Viacom engaged in after the acquisition. It claims that Viacom tried to find ways to reduce the aforementioned payments to Harmonix shareholders, such as "a negotiation of the EA Partners distribution agreement in the middle of the earn-out period. The group alleges that Viacom "decided to forego the opportunity to reduce EA’s distribution fees during 2008 (or in any other way enhance Harmonix’s net income or Gross Profit for 2008), and instead demanded benefits for itself (rather than Harmonix) in exchange for allowing EA to continue distributing Rock Band."
The benefits Viacom sought from EA, according to the suit, included a multi-million dollar ad deal with Viacom’s MTV Networks and other Viacom media outlets, a reduction in distribution fees beginning in 2009 (after the group’s earn-out period) and "acceleration of 2009 payments to 2008."
The group contends that EA would have been flexible with the fees after the success of Rock Band, and that a lower distribution fee from EA would mean higher profits and higher earn-out bonuses for the group.
Finally, there the matter of a $13 million dollar escrow account put aside for legal disputes at the time of the merger. The group alleges that the funds in that account should be released because all of the lawsuits filed against Harmonix and its products have been settled or resolved. Harmonix shareholders claim that three days before the end of the agreement to release the escrow, Viacom sent "an Indemnity Notice in which it stated that it was providing notice of claims for indemnification."