RealNetworks spins off games

(Editor's Note: This story has been corrected since it was originally published. RealNetworks' first-quarter financial results exceeded analysts' expectations.)

RealNetworks Inc. said Thursday it will split its casual-games division into a separate, publicly traded company likely based in Seattle, with its own management and board of directors.

In a conference call following the after-market announcement, the Seattle-based media company explained the spinoff as a way to help investors understand and track both the original and the new companies.

It said the spinoff will let investors choose which company they want to buy into: a pure games company or a digital multimedia company. And it predicted the move will help it attract and retain personnel dedicated to either one or the other.

"Games is an incredible entrepreneurial success story," said RealNetworks founder and Chief Executive Rob Glaser during the call. "It's a business we set up and operated fairly autonomously from its inception. We felt the business reached critical mass this quarter, and when you combine that with its growth rate, we feel good about spinning it out."

RealNetworks said it might distribute all the shares of the new, as-yet-unnamed gaming company among its shareholders. Or it might first sell up to 20 percent of those shares to the public and then distribute the remainder among its shareholders.

Addressing that choice, spokesman Bill Hankes said an initial public offering would be a good marketing tool for the new company, but he noted that IPOs are expensive and subject to market forces. The company has hired Lehman Bros. to advise it.

RealNetworks shares rose 72 cents, or 11 percent, to $7.20 in after-hours trading. The stock had closed during regular trading up 10 cents at $6.48. With brief exceptions, shares have hovered at less than $7 since mid-2001.

Games aren't the largest source of revenue for RealNetworks, but they have been its fastest-growing consumer-oriented division for three consecutive quarters. In first-quarter earnings released Thursday, games generated $31.8 million in revenue, up 33 percent over the same period last year.

The seven-year-old games division has its own creative studios, retail Web sites and syndication partners, and a catalog of more than 500 games.

The biggest revenue source last quarter was technology products and solutions, at $51.3 million, up 15 percent, followed by online music, at $38.1 million, up 12 percent, and media software and services, at $26.4 million, down 2 percent.

In the first quarter, RealNetworks reported net income of $2.4 million, or 2 cents per share, beating analysts' expectations by 5 cents. That compares with net income of $40 million, or 22 cents per share, in the first quarter of 2007. The year-ago period included the final payment of $61 million from Microsoft in settlement of an antitrust lawsuit.

The company posted first-quarter revenue of $147.6 million, up 14 percent compared with the year-ago period.

For the current quarter, RealNetworks said it expects earnings between 0 cents per share and a net loss of 4 cents per share. It anticipates revenue of between $151 million and $155 million.

For the full year of 2008, Real said it expects earnings of between 0 cents per share and a net loss of 5 cents per share, and revenue of between $628 million and $648 million. The company also said its board has approved a $50 million share buyback.

Partly using funds from the Microsoft settlement, RealNetworks has bought up six game companies since 2004.

They are Trymedia of Santa Clara, Calif., bought earlier this year; Game Trust of New York and Atrativa of Sao Paulo, Brazil, in 2007; Zylom Media of Eindhoven, The Netherlands, in 2006; Mr. Goodliving of Helsinki, Finland, in 2005; and GameHouse of Seattle, in 2004.

For the proposed spinoff to go forward, approval from RealNetworks' shareholders isn't required, but the Securities and Exchange Commission must approve an IPO.

Harold Zeitz, a RealNetworks senior vice president, said he didn't know when the company would decide whether to do a straight spinoff or an IPO and then a spinoff. He declined to say who might lead the new company, though he said Glaser will remain chief executive of RealNetworks.

A former executive in RealNetworks' games group, Derrick Morton, said that spinning off the games group was a common topic of conversation among employees when he worked at the company between 2004 and 2006.

Now chief executive of Seattle gaming company FlowPlay, Morton said that at times, employees in RealNetworks' games business felt like they "were fighting a losing battle" because their fortunes were tied to less profitable and slower-growing products.

"Certainly, among the staff there was always this 'what if' scenario," said Morton, the former general manager of mobile games at RealNetworks.

"What if we got spun off or there was a tracking stock or something, so that the results of our activity and the success we are having was actually rewarded in some way? I definitely think it is a great move, for the games guys and for RealNetworks, too."

In many ways, Morton said, RealNetworks might be more valuable broken up. And he noted that RealNetworks may want to spin off its Rhapsody online music business as well.

"If you valued the individual pieces, you probably would come up with a greater valuation than the whole company itself put together," he said.

When asked about further spinoffs, RealNetworks' Zeitz replied, "We're going to do what's in the best interest of the shareholders. There's no plan beyond that."

One analyst wondered about the wisdom of RealNetworks' proposed spinoff.

Though the company got a good start in gaming, it may fear having to pump too much money into the gaming division and having to face competition as it grows -- competition that would be better handled by a stand-alone company, said Sean Badding, an analyst at The Carmel Group in Carmel, Calif. And money made through the spinoff could go back into the company's other businesses.

On the other hand, he said, games would seem to attract a young, loyal demographic of users who could be converted into subscribers to RealNetworks' Rhapsody music service.

"So it's hard to say what they're thinking strategically," Badding said. "Long term, they could realize they should have kept those gaming customers."