Silicon Knights, Inc. v. EPIC Games, Inc.
| Decision Date | 22 December 2011 |
| Docket Number | No. 5:07-CV-275-D,5:07-CV-275-D |
| Court | U.S. District Court — Eastern District of North Carolina |
| Parties | SILICON KNIGHTS, INC., Plaintiff, v. EPIC GAMES, INC., Defendant. |
On July 8, 2011, Epic Games, Inc., ("Epic" or "defendant") filed a motion to exclude the reports and testimony of Terry Lloyd, an expert for Silicon Knights, Inc. ("SK" or "plaintiff"), and a motion to seal Epic's supporting memorandum and exhibits [D.E. 620, 623]. On July 15,2011, SK responded in opposition and filed a motion to seal the response [D.E. 643, 644]. On July 22, 2011, Epic replied [D.E. 662]. On November 30, 2011, the court held a hearing on the motion to exclude [D.E. 691]. On December 6, 2011, SK filed a submission in response to the court's inquiries on November 30, 2011 [D.E. 695]. As explained below, the court grants Epic's motion to exclude the reports and testimony of Terry Lloyd. As for the motions to seal, the court grants the motions to seal in part and denies the motions to seal in part.
SK and Epic are both in the business of developing video games. On May 10, 2005, SK entered into a license agreement to use Epic's video game engine, the Unreal Engine 3 ("UE3"), in SK's development of Too Human, a game that SK produced under a publishing agreement with Microsoft. SK contends that problems with UE3 eventually forced SK to develop its own game engine ("SKE"), delaying the release of Too Human by nearly two years. SK claims that this delay and additional costs caused by the delay caused decreased sales of Too Human, caused Microsoftto end negotiations to develop two sequels to Too Human, damaged SK's reputation, and impaired SK's ability to secure future development projects. In 2007, SK filed suit against Epic. SK alleges that, during the parties' license-agreement negotiations, Epic made false representations concerning the license agreement and the functionality of UE3. SK asserted multiple claims against Epic, including breach of contract, fraud, and other torts. In response, Epic filed counterclaims asserting breach of contract, copyright infringement, and misappropriation of trade secrets, and seeking imposition of a constructive trust. The parties engaged in substantial discovery. At the end of discovery, the court granted in part and denied in part cross motions for summary judgment. SK's remaining claims are fraudulent inducement, negligent misrepresentation, Unfair and Deceptive Trade Practices Act ("UDTPA") violations, and common law unfair competition. Epic's remaining counterclaims are copyright infringement, breach of license agreement, misappropriation of trade secrets, and its request for imposition of a constructive trust.
On July 8, 2011, Epic filed a motion to exclude SK's damages expert, Terry Lloyd, and his proposed testimony regarding various categories of SK's alleged lost profits and damages. Thereafter, SK responded in opposition and Epic replied. On November 30, 2011, the court held a hearing on Epic's motion to exclude.
Terry Lloyd ("Lloyd") is a Certified Public Accountant and Chartered Financial Analyst. SK's Opp'n Mot. Exclude [D.E. 643] 5. SK retained Lloyd to render an opinion regarding SK's alleged damages. Id. Lloyd has identified six categories of damages: (1) lost royalties due to decreased sales of Too Human caused by its delayed release (approximately $6,200,000); (2) lost income from publisher bonus payments based on deceased sales of Too Human (approximately $750,000); (3) lost income from royalties on Too Human "ancillary" sales (approximately $810,000); (4) lost profits from two Too Human sequels (approximately $16,142,000 for Too Human II and approximately $ 14,252,000 for Too Human III) and The Ritualyst, another video game (approximately $8,748,000); (5) the additional cost for SK to develop a replacement game engine(approximately $2,308,000); and (6) economic harm to SK's reputation, which limited future game development opportunities (approximately $8,951,000). Revised Report of Terry Lloyd [D.E. 564-1] 6-7 (May 4, 2010) (hereinafter "Lloyd Report"); see SK's Opp'n Mot. Exclude 5-7. Alternatively, Lloyd has calculated SK's damages as a portion of Epic's profits based on a theory of unjust enrichment See Lloyd Report 7; SK's Opp'n Mot. Exclude 7. Lloyd also has prepared a rebuttal report in response to Epic's expert witness, Phillip Beutel ("Beutel"), regarding the amount of damages Epic seeks in its counterclaims. See Report of Terry Lloyd [D.E. 621-2] (May 7, 2010) (hereinafter "Lloyd Rebuttal").
SK originally planned to release Too Human in November 2006, but due to various delays, SK did not release Too Human until 2008. See Lloyd Decl. [D.E. 643-2] ¶ 10; Lloyd Report 9. Lloyd estimated that about half of the two-year delay was attributable to "normal slippage" in the industry. See Lloyd Decl. ¶ 10; Lloyd Report 23 & n.39. Therefore, in order to calculate SK's lost profits allegedly caused by Epic, Lloyd attempted to predict what Too Human's sales would have been if it had been released in August 2007. See Lloyd Decl. ¶ 10. Lloyd referred to this projection as a "but-for world," where SK's development of Too Human would not be affected by Epic's alleged wrongful conduct. See Lloyd Report 22-24; Lloyd Dep. [D.E. 564-4] 67-68. Lloyd employed a methodology known as a "yardstick" or "comparables" approach, which measured SK's damages by comparing Too Human to similar games in order to project the sales SK would have generated from a 2007 release of Too Human, Lloyd Decl. ¶ 2. Lloyd contended that he conducted a comparables analysis by looking at games with similar characteristics to Too Human that were released during the same general time period. Id.; see Lloyd Dep. 131-32. Lloyd described the process of determining which variables he used to find comparable games as "very much an inexact science," and admitted that there was "a fair amount of subjectivity" and "uncertainty" involved. See Lloyd Dep. 14-16, 178.
Lloyd's first step in finding comparable games was to sort video games by genre. Lloyd Decl. f 4. Lloyd initially excluded any game that was not of a genre similar to Too Human's. Id.1 Lloyd explained that the chosen genres were a "judgment call based on what we understood about the game." Lloyd Dep. 131. Second, Lloyd eliminated any video game published before 2006 because the Xbox 360 was released in November 2005. Lloyd Decl. ¶ 5. Third, Lloyd eliminated any game with a Metacritic2 rating lower than Too Human's rating, because Lloyd believed that Too Human's rating would have been at least as high if it had been released a year earlier. Id. ¶ 6. Lloyd also excluded all games that did not sell at least 640,000 units, the number of units Too Human actually sold.3 Lloyd Dep. 151-52. After applying the above criteria, Lloyd added or removed games from the list based on Lloyd's "judgment" and discussions with his colleagues at his financial consulting company and with Denis Dyack ("Dyack"), SK's president. See id. at 134-37, 140-43, 167-71. Lloyd explained that he "added and subtracted as [he] saw fit" until he created a group of games that he felt was comparable. Id. 136. For example, Lloyd removed Halo "because [it] just seemed like such an outlier, and it was different enough, in [his] judgment, that it wasn't really a comp[arable game]." Id. 135. Lloyd added Grand Theft Auto IV based on the advice of Jeremy Sherlock ("Sherlock"), an employee of Sega. Id. 142-43. Lloyd explained that he "judgmentally included" Grand Theft Auto IV, even though it did not meet his identified criteria. Lloyd Decl. ¶7.4 Lloyd also used his judgment to add Gears of War. See Lloyd Dep. 135-40. Lloyd testified that he included some games because he believed "they would have been blockbusters." Lloyd Dep. 168, 181.5 Lloyd did not use any of SK's previous games as comparables. See Lloyd Dep. 113-15.6 Thus, Lloyd described the process of identifying comparable games as "evolutionary" and noted that it was not a simple two-step process. Id. 141. In fact, Lloyd could not recall "[what games] came in or out specifically after that first filter or first sort." Id. 170.
Lloyd's "evolutionary" process yielded a "comparables" data set of thirty-one games. Lloyd Decl. ¶ 7. Lloyd had confidence that a wider range of games would lead to a reasonable projection of Too Human's expected sales from a 2007 release. Lloyd Dep. 131-33. Next, Lloyd decided to give extra weight to one game, Mass Effect based on his "qualitative judgment" that Mass Effect's characteristics were so close to Too Human's that it deserved more weight Lloyd Decl. ¶ 8. Although Lloyd believed that Mass Effect was a "particularly good" comparison, he admitted that this belief was "based on what are admittedly somewhat subjective factors." Lloyd Dep. 170, 220-21. Lloyd explained that Mass Effect's similarities were "good enough that we should give it fifty percent of the weighting. . . ." Id. 221. Lloyd then calculated Too Human's projected unit salesby giving equal weight to Mass Effect's total unit sales7 and the average unit sales of the thirty-one comparable games. See Lloyd Decl. ¶ 9; Lloyd Report, Revised App. A, Schedule A-1.8
Lloyd concluded that if Too Human had been released in August 2007, SK would have sold an additional 1.9 million units of the game, for a total of 2.5 million units. Lloyd Report 23-24 & Revised App. A, Schedule A-l.9 Based on this sales projection, Lloyd further concluded that SK would have received $750,000 in bonus payments from Microsoft, and Microsoft would have sold other "ancillary" products, such as downloadable content10 ("DLC") for Too Human, resulting in $810,000 additional income for SK. Id. at 26-28 & Revised App. A, Schedule A. Lloyd's methodology does not have any statistical margin of error. Lloyd Dep. 130. Lloyd is not aware of any other cases where he (or any other expert witness) has applied this particular methodology in the way that he...
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