THQ's CEO Talks Next Generation

With new consoles set to debut, the games developer's CEO positions THQ to capitalize on an industry sea change.
Author:
Publish date:

The video-game industry is entering one of its periodic, often chaotic, transitions. THQ (THQI) CEO Brian Farrell is hoping to seize the moment.

His company, one of the second-tier rivals of industry giant

Electronic Arts

(ERTS)

, has a reputation for being largely a maker of kids' games. In teaming up with

Disney

(DIS) - Get Report

and

Viacom's

(VIAB) - Get Report

Nickelodeon division, the company has produced hot sellers in games based on

The Incredibles

movie and

SpongeBob SquarePants.

Farrell's not unhappy with that business. In fact, he's hoping to hold on to it. But Farrell thinks the company has other opportunities it can exploit, from titles geared at hard-core gamers, to games for mobile phones. And the transition is just the time to go after those new opportunities.

Sony

(SNE) - Get Report

,

Microsoft

(MSFT) - Get Report

and

Nintendo

are all expected to unveil their next-generation game machines next month at

E3, the industry's giant confab. With at least one of the machines expected to go on sale later this year, the changeover to the next generation of hardware is set to begin.

Farrell talked with

TheStreet.com

earlier this month about the transition and THQ's strategy going into the next console cycle.

Q: What are THQ's plans for E3? Will the company have any big product debuts there?

This year's going to be about next-gen

generation hardware. We will be showing the first of our next-gen products. We've been talking about how aggressive THQ intends to be next gen. We see next gen as a time when the deck gets reshuffled. People can change places. If you look at the hardware guys, traditionally, whoever dominated the last gen doesn't necessarily dominate next gen. The same is true for software.

It really begins and ends with our studios. We bought Relic Studios right around E3 time last year. We will be showing a product that they're working on for next gen that we think is going to get a lot of buzz around E3. Volition

is the studio responsible for

Red Faction

. We'll be showing a brand new product that showcases what we think is the next-gen hook, which we think is the ability to create an open-world environment -- a truly living, breathing open world with very interactive artificial intelligence.

Q: You mentioned the next generation of consoles. Investors have been wary of console transitions in the past because during such times, costs tend to go up and sales go down. How will things shape up this time around?

People remember transitions -- I think this is my fourth or fifth -- and the early, early transitions were very ugly. But those days are over. The last transition, we actually grew revenues, but earnings will either flatten out or decline, as you're supporting both the old generation and the new generation.

I think investors are looking through that to see what the peak-to-peak earnings between generations are going to be. I think if you study us or Electronic Arts or

Activision

(ATVI) - Get Report

or others, those peak-to-peak earnings are pretty significant. We're not going to change the fact that this is a somewhat cyclical industry, but when the revenue and earnings growth starts kicking in the second and third years of the console cycles -- pretty interesting.

Q: How is THQ positioned differently for this console transition compared with the last one?

At the beginning of the last cycle, we had one studio with a couple of teams and 50 to 60 people. Now we have 10 studios, really all over the world, approaching a thousand people. So our capabilities -- we're just a different company now than we were five years ago.

Q: The conventional wisdom is that publishers are going to be a lot more cautious this time around -- particularly with the next iteration of Microsoft's Xbox -- because they got burned last time when it didn't sell well initially, and overall console sales didn't take off as fast as expected. What's your take?

If you look at the dynamics of the last Xbox vs. this one, it's very, very different. The last Xbox was out a year after Sony. And Microsoft was doing it for the first time. Now we have a different dynamic. Microsoft has learned a lot over the last five years; they're being very aggressive in terms of developer support.

We think there's a real opportunity, not just on Microsoft, but on Sony. It's a different story this time: This is a seasoned Microsoft going after a Sony that really needs this business to succeed. That's what excites us. So, to answer your question directly, we are not being more cautious. We are being very aggressive. We see a huge opportunity on next gen, and we want to invest in the tools and technologies so that we can be a leader over the next gen.

Q: Right now, the lion's share of THQ's revenue isn't coming from games based on your own intellectual property, but on the IP that you're getting from companies such as Pixar (PIXR) . Where do you expect that to go over time?

I think overall the branded content

comprises around 60% or 65%

of revenue, and that's by design. If you look at industry leaders like us and EA, and even Activision, it's great to have some products that resonate with consumers year in and year out. With EA, it's their sports business. With THQ, it's our wrestling and our younger demographic business.

When we're speaking to investors, we want to make sure that they know we understand having recurring revenue cash flow. Our strategy is, building on top of that, you can build this portfolio of owned IP -- as we've done with

Dawn of War

and

Full Spectrum Warrior

, and as we hope to do with

Destroy All Humans

. Owned IP is something

in which we're really aggressively investing. But we're not abandoning the strategy of branded content at all.

Q: THQ recently invested in C-Valley, which distributes games and other content to mobile phones. THQ also has its own wireless games division. How significant a market is the game business for mobile phones?

I think the number we see is 800 million of these data-enabled handsets by 2007. Even if only a fraction of those download games, you don't need a very high conversion ratio to have a real business there. We think that's a huge opportunity. Our strategy is a little different than some of the competitors'; we think that market is going to mature more quickly into people wanting branded content. If I can download bowling game A or

SpongeBob Bowling

, we think

SpongeBob Bowling

gives us a huge advantage.

The big thing coming for us on the mobile side is picking up the rights to

Star Wars

for the next film and the classic

Star Wars

iterations. It has always been huge in the game industry, so that's one of our new brands, and we're looking forward to it, with a lot of enthusiasm on wireless.

Q: There's a lot of talk about the big media firms' interest in the video-game industry. Do you see one of them acquiring THQ?

I don't know. If I were a big media company, I would find THQ very attractive on a number of levels. We have great development capabilities. We've shown we can execute in the business. On the flip side, and this has been chronicled, all of us -- EA, Activision, THQ -- have relationships with a number of media companies.

A few years ago, the question was, "Is Microsoft going to buy one of the publishers?" Well, by definition, if Microsoft were to buy one of the publishers, the Sony business and the Nintendo business becomes less interesting. The same applies to the studios. Our view is, we are looking at growing the business, and that's all we're about. Grow the business, create a company that's a value to shareholders. And if it's a value to shareholders, could it be a value to someone else? Maybe. That is not our long-term strategy -- to get bought out by a media company.