Clifford Chance

As we approach the end of Q2 2022, it's clear from the media that investment into the video games industry continues to grow at breakneck speed as the sector attracts new investors and potential partners. Indeed, it has been reported in recent weeks that top-tier video games publisher Ubisoft is attracting interest from private equity firms such as Blackstone and KKR as part of a potential buy-out.¹ Further, there have been reports that Electronic Arts and NBCUniversal have been in discussions over a potential merger of the two companies.² The companies are keeping their lips sealed, however, whether substantiated or not, there is no shaking the fact that the video games industry has attracted the attention of investors with both traditional financial institutions and corporates wanting a slice of the action. This comes as no surprise given that a recent report from Accenture estimates that the  global gaming industry value now exceeds US$300 billion.³

With the above in mind, we wanted to create an all-in-one guide for those that currently operate in or are considering entering the video games industry with the purpose of providing an overview of the life cycle of a video game – from the early stages of development, past the grind of regulatory compliance, through to the final stages of monetising the product. The result is "Level Up: A Guide to the Video Games Industry".

In Level 6 of the Guide, we take a look at recent investments that have hit the headlines and run-through the key considerations and risks for investors and key stakeholders to bear in mind when investing in the video games industry.    

To access the full PDF guide, please email talkingtech@cliffordchance.com

LEVEL 6: FINANCING AND INVESTMENT

The value of the video games industry has exploded in the past few years and was estimated to be worth over US$174 billion in 2020. It is no surprise that over the past few years investors have been turning their attention to the industry as they compete to take equity in the next big esports organisation, games developer or publisher.

2020 was a record year for investment in the gaming industry, with the media reporting a jump of 77% to US$13.2 billion in 2020.⁴ Investment comprised a number of high-profile IPOs but also several independent funding rounds, one of the most notable being Epic Games’ August 2020 funding round which totalled nearly US$1.8 billion and valued the developer at the time at approximately US$18 billion.

As can be expected from the technological and modern nature of the games being developed and played, investments have not been limited to traditional or institutionalised investors. Developers are keen to tap into the variety of funding options available to them, which include gaming-specific investment funds, high-net worth individuals (such as stars and team owners from the traditional sporting world) and retail investors (often comprising the future players of to-be-developed games investing through crowdfunding platforms, typically in return for some form of perk such as special characters, access or artwork to use when playing the fully developed game), as well as the more traditional sources of investment.

For example, various athletes have seen the value in investing in esports, such as NBA legend Michael Jordan who led a US$26 million 2018 investment into aXiomatic Gaming, the parent company of Team Liquid (a leading and now multi-million dollar valued esports team)⁵ and, in April 2020, football superstar David Beckham personally invested over US$300,000 into UK-based esports organisation Guild Esports (as well as entering into a name and image rights deal with the organisation to help with promotion and marketing). In October 2020, Guild Esports became the first esports organisation to be admitted to the London Stock Exchange.⁶ On the development side, crowdfunding sites have helped to source a range of investment amounts, from a few thousand to millions of dollars, from those individuals who will ultimately play the games once fully developed. In 2020, US$22.9 million was raised for video games on Kickstarter alone⁷ (a US-based crowdfunding site), and other organisations, such as Game Seer and Fig, have been specifically set up to focus on crowdfunding in gaming.

The industry also saw increased M&A activity which contributed to the unprecedented investment seen in 2020. This included Farmville-creator Zynga’s acquisition of Peak Games for US$1.85 billion and technology giant Tencent increasing its stake in China’s number one video live streaming service, Huya, with an US$810 million share purchase from JOYY Inc., which will result in Huya merging with its main market rival, Douyu (of which Tencent also owned around one third) and the combined group being approximately two thirds owned by Tencent (assuming the merger completes in 2021, although with the combined group controlling around 80% of the relevant Chinese market, there will likely be some work needed with regulators to ensure that they are comfortable with the consolidation of such a large portion of the market).⁸

Financing and Investment Options

There are many different reasons why esports organisations or game developers and publishers may require investment. It may be to achieve a specific goal in the short-term (e.g., to finish development of a game) or a broad goal in the long-term (e.g., hiring enough staff to continue expanding its games portfolio and reach new target markets). Regardless of the reasons, stakeholders should be aware of the advantages and disadvantages of the different financing and investment opportunities available. We set out some of these below:

Type of Investment / Financing

Self-funded

• Pro: allows the stakeholder to retain 100% of the equity and income from the relevant product.
• Pro: full control of the creative elements of any games produced or of the management and style of esports teams and, similarly, the brand or feel of the relevant product with its end consumers or fans.
• Con: risk of not having enough capital to fully develop the game and appropriately market / promote to generate income.
• Con: as these types of projects are likely to be relatively small or in the early stages of development or formation, risk of informal practices and lack of clarity between stakeholders could lead to future disputes unless defined parameters are set.

Crowd funding

• Pro: an easy way to obtain capital for a specific project if enough interest and support exists in the market.
• Pro: ability to tap into a much wider pool of investment and from those less likely to scrutinise their investment or require much in return compared to more traditional sources of investment.
• Pro: pool of investors may help to quickly establish a user or fan base.
• Con: investors typically have to be offered something in return for investment (e.g., equity; free or discounted game once developed) which can reduce future returns, income and/or cashflow.
• Con: investors may not be fully aware of the terms of their investment or any risk associated with the project, potentially exposing the investee to future claims.
• Con: future investments or exits may be more difficult if there are large numbers of small investors, especially if they have any element of control over key matters.

Venture capital

• Pro: ability to access larger sums of money from investors often specifically set up to invest in the type of organisation seeking funding.
• Pro: these sophisticated investors will often have a network of advisors and industry specialists that the investee can then use.
• Pro: such investors are extremely focused on the financial return of their investment so will work with the investee business to produce a short to medium-term plan to maximise the growth of the business.
• Pro: multiple rounds of investment can be undertaken, allowing the business to tap into even further and greater investment as its profile grows.
• Con: dilution of equity in the business and investors will require certain controls over the running of the business.
• Con: business may need to amend its practices or brand/style to secure funding.
• Con: risk of misalignment of long-term business strategy and goals or conflicts of interests between investors and business may lead to disputes.

Investing and Due Diligence

As with all investments, there is no guarantee that a stakeholder’s investment in the gaming industry will be secure or provide any returns. It will therefore be important for investors to instruct legal counsel that are experienced in and knowledgeable about the gaming industry and investment transactions as early as possible so that appropriate due diligence can be performed to identify any potential risks and liabilities. Due diligence will typically cover:

• IP and other proprietary rights
• Technology capabilities
• Supply, distribution and marketing contracts
• Employment, pensions and incentive arrangements
• Tax
• Competition issues
• General company information
• Accounts and other financial/debt information
• Longer term financial, business and strategy plans
• Data protection/privacy
• ESG matters
• Compliance with law and any disputes (whether with private or public bodies).

Risks and liabilities will not always exist at the time of the investment and it will be critical for the investor and their legal counsel to look to the future to anticipate any potential concerns that may arise and seek appropriate protection. For example, there is a potential risk that investors may file claims against developers and publishers in order to recover losses for video games that ‘flop’ on the market following launch. Such risks and liabilities will need to assessed on a case-by-case basis.

Additional Information

Read Level 1 of the guide on creation & development

Read Level 2 of the guide on AI-generated content.

Read Level 3 of the guide onuser generated content

Read Level 4 of the guide on 3rd party IP

Read Level 5 of the guide on IP licensing arrangements

References

1. Ubisoft reportedly unlikely to sell for less than €60 per share – Games Industry Biz (23 May 2022) https://www.gamesindustry.biz/articles/2022-05-23-ubisoft-reportedly-unlikely-to-sell-for-less-than-60-per-share

2.   EA reportedly had acquisition talks with NBCUniversal, Amazon, Apple, Disney - Games Industry Biz  (23 May 2022) https://www.gamesindustry.biz/articles/2022-05-23-ea-reportedly-had-acquisition-talks-with-nbcuniversal-amazon-apple-disney

3. Global Gaming Industry Value Now Exceeds $300 Billion, New Accenture Report Finds - Accenture  (29 April 2022)  https://newsroom.accenture.com/news/global-gaming-industry-value-now-exceeds-300-billion-new-accenture-report-finds.htm

4. Games industry investment jumped 77% to $13.2 billion in 2020 – Games Industry Biz (4 Feb 2021) https://www.gamesindustry.biz/articles/2021-02-04-games-industry-investment-jumped-77-percent-to-usd13-2-billion-in-2020

5. NBA superstar Michael Jordan leads $26m investment into aXiomatic Gaming -  Games Industry Biz (29 Oct 2018)  https://www.gamesindustry.biz/articles/2018-10-29-nba-superstar-michael-jordan-leads-usd26m-investment-into-axiomatic-gaming

4. Guild Esports completes £41.2M listing on London Stock Exchange -eSports Insider (5 Oct 2020) https://esportsinsider.com/2020/10/guild-esports-ipo/

7. Games broke funding records on Kickstarter in 2020, despite the pandemic - Polygon (22 Dec 2020) https://www.polygon.com/2020/12/22/22195749/kickstarter-top-10-highest-funded-campaigns-2020-video-games-board-games

8. China's Tencent faces concessions to win green light for giant videogaming merger: sources – Reuters (23 Mar 2021) https://www.reuters.com/article/us-china-tech-antitrust-tencent-idUSKBN2BF0EQ