THQ Could Get 'Nick'ed by Viacom
By Troy Wolverton
TheStreet.com Staff Reporter
9/27/2004 7:08 AM EDT
THQ (THQI:Nasdaq - commentary - research) has made a lot of money developing video games based on popular Nickelodeon shows such as SpongeBob SquarePants. Now the company -- and its investors -- may be hoping that business doesn't slip away.
THQ's license expires at the end of next year, but Nickelodeon parent Viacom (VIA.B:NYSE - commentary - research) is already talking to THQ and other companies about a new deal. Analysts believe Viacom will ink a deal soon to give its partner enough time to produce games for 2006 and beyond.
Although THQ officials have said they're confident the company will retain the Nickelodeon deal, analysts and investors aren't so sure. One of THQ's potential rivals is Midway Games (MWY:NYSE - commentary - research), which is majority-owned by Viacom CEO Sumner Redstone.
"Although we think it is logical for Viacom to renew its license with THQ, we are far from certain that logic will prevail," said Wedbush Morgan analyst Michael Pachter, in a research note issued last week. "We think the outcome is too close to call."
The problem is that the Nickelodeon license represents a sizable chunk of THQ's revenue. In its latest fiscal year, the company derived 16% of its sales -- about $102.5 million -- from the Nickelodeon titles. With a game based on the upcoming SpongeBob movie slated for this fall, the company's Nickelodeon revenue could go higher this year...
...By all rights, renewing the contract with THQ shouldn't be an issue for Viacom. Pachter estimated that the company has sold about 15 million units of Nickelodeon-related games since 2000, generating about $25 million in royalties for Viacom. Within the video-game industry, THQ has carved out a niche for itself as the leading producer of games targeted at children -- Nickelodeon's chief audience.
In contrast, Midway has done little in the way of children's games, focusing instead on its Mortal Kombat franchise and on sports and racing games such as LA Rush.
Midway has little experience marketing to children and doesn't have the ability in-house to develop games for handheld devices, which represents a big part of the youth game market, said THQ CFO Edward Zinser in a meeting with investors last week. "From our standpoint, it would almost be irresponsible for [Viacom] to give the license to Midway," Zinser said. "We are certainly expecting to renew that license."
THQ has been negotiating with Viacom to renew the Nickelodeon license for several months and hopes to have a deal signed in the "near term," Zinser said.
Investors also question whether Midway could reproduce THQ's success with the Nickelodeon titles.
"I think everyone in the industry doubts their ability to deliver," said Joe Spiegel, a fund manager and managing member of Dalek Capital.
But no one is exactly sure how Redstone's increasing investment in Midway over the last two years will factor into Viacom's decision. The move has mystified other analysts and investors, partly because Midway has struggled for years...
...Redstone controls about 71% of Viacom's voting shares, meaning that he could likely push through any deal he wanted. And Viacom has recently teamed up with Midway on a couple of projects. In the last month, the media company's Paramount Pictures division has announced that it has acquired the film rights to Midway's upcoming Area 51 and Fear & Respect titles.
Another factor could be the fact that THQ has yet to tap into the full range of Nickelodeon's programming. While the network produces 19 animated children's shows, THQ has only developed seven games based on them, noted Pachter. "Should Midway offer to create games based upon a higher number, the advantage may shift in Midway's favor," he said in his note.
Viacom has asked Midway to make a pitch for the license, but Midway has not yet done so, said a Midway representative. "It's all up in the air," the representative said.
Some investors have a gut feeling about the outcome. "I think Midway's going to win" the Nickelodeon license, said Norm Conley, a portfolio manager for JAG Advisors and a contributor to TheStreet.com's sister site, RealMoney. "Redstone really wants to grow the revenue base of Midway, and this would make a nice fit." ...
...Viacom is going to try to get the best deal it can get, analysts noted. And that could mean that even if THQ renews the contract, it might do so only by offering very generous terms to Viacom. "This is one of those types of things: What am I left with, and what do I have to give away to win the deal," said the portfolio manager.
