Redstone's Midway Foray Goes Beyond Personal Interest

Updated from 10:31 a.m. EDT

Sumner Redstone's move to seize control of Midway Games ( MWY) may end up rattling the entire video-game software industry.

Since November, Redstone has more than doubled his stake in Midway; a regulatory filing posted Monday revealed he now holds 71% of the company's shares. The Viacom ( VIA.B) CEO has already nominated two director candidates and could ultimately handpick the successor to Midway Chairman Neil Nicastro, who announced his resignation Friday.

Though Redstone has denied it, some analysts believe his takeover of Midway is an attempt to get Viacom into the video-game software industry, which could have far-reaching implications.

In a narrow sense, Redstone's wheeling and dealing would most directly affect Activision ( ATVI), which has developed games based on Viacom's movie and television properties, and, more significantly, THQ ( THQI). Of the $640.8 million in revenue that THQ posted last year, analysts estimate that 15% to 25% came from its Viacom titles.

If Viacom absorbs Midway, "the big risk is on THQ," said one fund manager, who has no position in THQ or Midway.

More broadly, the media mogul's Midway moves could touch off a bidding war by rival entertainment companies for the other video-game makers.

"I think they're in play," said Michael Pachter, who covers the video-game software industry for Wedbush Morgan. Entertainment companies "are all copycats. If one guy buys a TV network, the other one has to buy one, too." (Wedbush Morgan has no banking business with Midway or the other major video-game companies; Pachter does not hold shares in the companies he covers.)

Other video-game stocks may well benefit if Redstone rolls Midway into Viacom, or if Viacom makes other purchases in the sector. Such a move would "set a precedent" of a big entertainment company buying its way into the video-game publishing business, said Pachter.

The entertainment companies already feel that they are leaving too much money on the table when they license their titles to video-game makers, noted the fund manager, who requested anonymity. A move by Viacom could spur its rivals to try to bring that revenue in-house, likely sending the video-game maker's stocks -- which have already posted strong gains year to date -- even higher.

"If Redstone buys Midway, Activision and Electronic Arts ( ERTS) will be in play," said the fund manager, who owns shares in Electronic Arts, Activision and Take-Two Interactive ( TTWO).

Of course, not everyone is convinced of Redstone's grand plan, much less its broader implications. Redstone himself has said that his Midway purchases are a "personal" matter, unrelated to Viacom. At least some analysts are willing to take his words at face value.

"Until he indicates that this is something other than strictly personal, you can speculate till the cows come home," said P.J. McNealy, an analyst who covers the video-game sector for American Technology Research, which does not do investment banking. (McNealy does not hold shares in the companies he covers.)

Notably, few entertainment companies have had much success by themselves in translating their box-office blockbusters into video-game hits, aside from closely held LucasArts, with its access to founder George Lucas' Star Wars library.

To date, most companies have chosen to sell off the rights to their movies and TV shows to video-game software companies. Thus, THQ produces games based on Disney ( DIS) and Viacom titles. Even Sony ( SNE) -- producer of the PlayStation consoles and a game maker in its own right -- has sold off the rights to its upcoming Spider-Man 2 movie to Activision.

But the practice of farming out titles may be starting to change. Time Warner's ( TWX) Warner Brothers division is attempting to build a game studio from the ground up. Vivendi Universal ( V) built its own game division and recently released a new title in conjunction with its upcoming Vin Diesel movie, The Chronicles of Riddick.

Then there's Redstone. The media mogul apparently is intent on getting into the video-game sector one way or another. Redstone said Thursday that Viacom had considered, but ultimately rejected, making an offer for Electronic Arts, according to published reports.

Meanwhile, since November, he's purchased more than 26 million shares of Midway's stock, helping send its price up more than 300%.

Strange Buy Brings New Blood

At first glance, Midway may seem a strange buy. Although the company makes the popular Mortal Kombat franchise, it has posted a loss in 17 straight quarters. Midway's market cap, revenue and breadth of titles are dwarfed by the likes of Electronic Arts and Activision.

Redstone's method of purchasing the company has been even more perplexing. Instead of offering to buy the company in one fell swoop through a tender offer, he has made numerous open-market purchases since November. While he initially bought the stock at less than $3 a share, his latest purchases have been at more than $11 per share.

"It's hard for me to question his judgment -- but in this case, I do," said Pachter.

A representative of Redstone's National Amusements declined to comment on Redstone's purchases of Midway stock, directing inquiries to the mogul's office at Viacom. Viacom spokeswoman Susan Duffy pointed to Redstone's public statements that he feels he can improve Midway's performance by bringing in new talent.

Redstone is already taking steps in that direction. Last month, he nominated both his daughter Shari Redstone and Kenneth Cron, the interim CEO of Computer Associates ( CA), to serve on Midway's board.

Nicastro's departure presents another opportunity to reshape Midway. Duffy declined to say whether Redstone had a role in Nicastro's departure. A Midway representative did not return calls seeking comment. In a statement, Nicastro said his resignation, effective immediately after the company's annual meeting on June 10, was due to "personal and professional reasons."

Regardless, Redstone promised in the statement that Midway would replace Nicastro soon after the company's annual meeting.

While the new blood may help, Midway could become more valuable if it got its hands on the Viacom properties, a distinct possibility. Activision last summer cancelled its agreement with Viacom to develop games based on the entertainment giant's Star Trek franchise. More enticingly, THQ's contract with Viacom to produce games such as those based on SpongeBob Squarepants and Rugrats will expire next year.

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