Will THQ Be Playing Merger Game Next?

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It may be a good time for video game publisher THQ Inc. to begin wooing some handsome media companies.

Vivendi’s Dec. 2 offer to buy Activision Inc. has made it clear that the booming video game industry the only sector of the entertainment market growing in double-digits is consolidating, so media conglomerates are shopping around.

“THQ is definitely a potential acquisition target,” said Todd Mitchell, an analyst at Kaufman Bros. “If I’m a media company and I want to grow my business, what segment of the industry is growing right now? Video games. What’s a quick and easy way to get into the video game business? Acquire a THQ.”

Brian Farrell, chief executive of Agoura Hills-based THQ, agreed that the Activision merger was a signal that things will change.

“We have our own strategy and growth plans for the next couple of cycles, but people are talking about the next play,” said Farrell. “There are big media companies looking at the space and there aren’t many candidates.”

THQ will be one of three independently owned publishing companies in the country with about $1 billion in sales, after Santa Monica-based Activision completes its merger with Vivendi’s Blizzard, which is home to the world’s largest massively multiplayer online game, World of Warcraft.

The newly merged Activision Blizzard projects revenues of $3.8 billion, challenging the biggest player in the industry, Electronic Arts, which projects at $3.7 billion in 2007

The buzz about the next potential acquisition has surrounded THQ, but analysts are at odds as to whether its relationship with media giant Walt Disney Corp. will play any part in the scenario. Disney declined to comment.

Analyst Mike Hickey of Janco Partners said THQ’s license agreements with Disney’s Pixar Animation Studios for properties such as “Cars,” “Ratatouille” and “Finding Nemo” may hinder its chances of being scooped up by any other media company.

“If a media conglomerate buys THQ, why would Disney continue to license its properties to a publisher owned by a competitor?” Hickey said.

And without the Disney agreements, which include rights to three upcoming films next year, THQ is just not as strong, he said.

Meanwhile, Disney appears to be building its own video game business. It recently acquired the online children’s game Club Penguin for $350 million and is believed to employ about 700 video game developers internally.

“You build it or acquire it,” Hickey said. “Disney’s building it. They’re buying little studios and rolling it up into its own infrastructure.”

But studio acquisitions won’t add up to a $1 billion international publishing company with its own intellectual properties across console and online platforms, said analyst Arvind Bhatia of Sterne Agee & Leach. To remain competitive in the video game industry, scale is a necessity, he said.

“If Disney is serious about games, it takes more than just investing in developers,” Bhatia said. “You need a full-fledged publisher like THQ who instantly has presence in retail.”


Owning up

Farrell said analysts may be oversimplifying THQ’s business by focusing only on its licensed properties and not on its owned intellectual properties, which make up about a third of the publisher’s portfolio. In comparison, Activision Blizzard is expected to own about half of its portfolio in 2008.

THQ has made nine acquisitions of studios in the past eight years, including Volition Inc., developers of the hit game “Saints Row,” in 2000, as well as Juice Games of racing game “Juiced” and Paradigm Entertainment, makers of “Stuntman,” both in 2006. That pace will continue, Farrell said.

It is in the process of developing its first massively multiplayer online game based upon its game “War Hammer,” with a team of veteran online multiplayer developers, Farrell said. The game is expected to be completed in coming years.

The company will also collaborate with Shanda Entertainment, China’s leading massively multiplayer online game publisher, to create an online marketplace for THQ’s real-time strategy game “Company of Heroes.” THQ would get royalties from every sale made in China. The company plans to release the game during the second half of next year.

“We’re one of the big guys with scale and bets on the table,” Farrell said.

However, analysts say compared to Activision’s hit franchises, such as “Guitar Hero” and “Tony Hawk,” THQ is better known in the market for its licensed properties through the World Wrestling Foundation and Pixar.

Some reaction to THQ’s portfolio of internally developed games has been tepid. For example, Metacritic.com recently rated “Stuntman” on PlayStation II at 71 out of a possible 100 and “Juiced” on Box 360 at 69, compared with competitors Rockstar Games’ Grand Theft Auto series “San Andreas” at 95 and “Vice City” at 97.

Revenue from THQ’s intellectual properties is forecast at about 40 percent of its total sales in 2008. Activision Blizzard is projecting 70 percent.

“Internally developed and owned intellectual properties are generally the highest margin product a video game publisher can sell,” Hickey said. “If a potential acquirer begins to question the market relevance of owned intellectual properties within the company’s portfolio, the value of the company is inherently worth less.”

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