Contrary to Sumner Redstone's earlier suggestions,

Viacom

(VIAB) - Get Report

might have an interest in acquiring

Midway Games

(MWY)

after all. And that has a number of corporate watchdogs troubled.

"We're already raising questions about how vigorous

Viacom's board is in representing outside-shareholders' interests," said Beth Young, a senior research associate at The Corporate Library, which monitors business behavior. "Minority shareholders would be right to be careful and wary of this arrangement" between Midway and Viacom.

In an updated regulatory filing Friday, Redstone, the chairman and CEO of Viacom,

acknowledged that the media giant is interested in entering the video-game industry and that Midway might be a possible acquisition target. In the same filing, Redstone said he had upped his ownership in Midway -- direct and indirect -- to 62 million shares, or about 74% of its outstanding stock. Redstone has

steadily increased his stake in Midway since July 2002, when he owned 8.1 million shares directly and indirectly in the company.

Redstone previously said his investment in Midway was "personal" and unrelated to Viacom. But some investors and analysts had

speculated that he eventually planned to sell Midway to Viacom as a vehicle to get Viacom into the video-game sector. In June, he

warned investors that he was considering taking the company private.

Officially, Viacom and Midway have no deal nor is there any indication they will reach one, according to Carl Folta, a Viacom spokesman. And Viacom also held out the possibility that it might merely be interested in a licensing agreement, rather than an outright acquisition, he noted.

Indeed, despite Viacom's statement Friday, some analysts still think the company will pass on acquiring Midway. In a research note issued on Friday, Wedbush Morgan analyst Michael Pachter noted that Midway, which publishes

Mortal Kombat

and other titles, has posted 18 consecutive quarterly losses. In contrast, rival game publishers

Take Two Interactive

(TTWO) - Get Report

and

THQ

(THQI)

have valuations similar to Midway's $1.05 billion market capitalization but have been much more successful in recent years, Pachter and other analysts have previously noted.

"We believe that Midway is unlikely to be acquired by Viacom," Pachter wrote. (Wedbush Morgan does not have any investment banking business with Midway, and Pachter does not hold shares in the company.)

Meanwhile, the media giant has created a committee of independent board members to review any prospective deals the company might make in the video-game industry and to address any governance concerns, Folta said. The committee consists of William Cohen, the former secretary of defense; David McLaughlin, the chairman of

Orion Safety Products

; and former

Verizon Communications

CFO Frederick Salerno.

"I think the board here is trying to do the right thing, to get ahead of the speculation," Folta said. The committee will "make sure that what we do is impartial and fair to whoever is concerned," he added.

Redstone's investment in Midway has raised eyebrows because many on Wall Street believe he has overpaid for the stock. Although Midway's bottom line has been

improving, the company's performance still trails that of most of its competitors.

Despite this, Midway's stock has far outperformed that of its rivals, rising more than 220% this year. But many investors have attributed the stock's rise largely to Redstone's continuous purchases, which have mostly come in small quantities on the open market, instead of through bulk buyouts of other shareholders or through a mass tender offer.

Some corporate watchdogs now question whether Redstone is setting up Viacom shareholders to bail out his Midway stake. Redstone has huge stakes in both companies, and National Amusements, which he also controls, owns about 71% of the voting power of Viacom. So, if Viacom overpays for Midway, he could be hurt. But Redstone could potentially structure a deal that benefited him even if it's not good for Viacom, said Young.

"That's what minority shareholders should worry about," she said. "He's in a position to rig that to his own benefit."

Viacom's Folta didn't know whether Redstone planned to recuse himself from any potential negotiations. He also didn't know whether the independent committee at Viacom would have veto power over any potential video-game deal. The point of creating the committee now was to help guide any negotiations so that board members wouldn't have to object to it later, he said.

Even if the board proves to be up to the task of reviewing potential deals, the question remains why it's so late to the issue. Major media companies have long eyed the video-game sector as an area of growth. Indeed, Viacom's statement in the filing about being interested in the video-game industry could plausibly have been made even before Redstone started his Midway buying spree.

As the CEO of Viacom, Redstone might have had a responsibility to encourage the media company to invest in Midway if he saw value there. Folta didn't know if Redstone ever presented the opportunity to the board, but said the board didn't object to Redstone's personal investment.

"No one at Viacom expressed an interest

in Midway while he was accumulating it," Folta said.

But the company's acknowledgement that it now has an interest raises questions about whether it changed its mind and why, said Pat McGurn, special counsel at proxy adviser Institutional Shareholder Services.

Investors should be wary of CEOs making personal investments in businesses that might be future takeover targets for their companies, McGurn said.

"There's almost no way to insulate such a transaction from a conflict

of interest," McGurn said.

Viacom, of course, thinks differently. The formation of the committee was done to prevent even "the appearance of a conflict" in any transaction in the video-game industry, Redstone said in his filing.

And at least some are willing to give the company -- and Redstone -- the benefit of the doubt. The process that Redstone and Viacom are going through is sufficiently transparent that shareholders should be able to easily see and challenge anything they find suspect, said Gary Lutin, an investment banker and shareholder rights advocate.

"Even in the unlikely event that Mr. Redstone was tempted to ignore his responsibilities, I doubt that he'd ignore the scrutiny of his shareholders," Lutin said.