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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549

FORM 10-K

(Mark One)

[X]	ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the fiscal year ended December 31, 2001

OR

[   ]	TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the transition period from _____ to _____

Commission file number 0-18813

THQ INC.
(Exact Name of Registrant as Specified in Its Charter)
_______________

Registrant’s telephone number, including area code: (818) 871-5000

_______________

Securities registered pursuant to Section 12(b) of the Act:

None.

Securities registered pursuant to Section 12(g) of the Act:

Common Stock, $.01 par value
Preferred Stock Purchase Rights

Indicate by check mark whether the Registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the Registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes [x] No [  ]

Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K (§229.405 of this chapter) is not contained herein, and will not be contained, to the best of Registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. [x]

As of March 15, 2002, approximately 26,213,000 shares of Common Stock of the Registrant were outstanding and the aggregate market value of voting Common Stock held by non-affiliates was approximately $1,226,883,000.

DOCUMENTS INCORPORATED BY REFERENCE

The 2002 Notice of Annual Meeting of Stockholders and Proxy Statement is incorporated by reference to Part III herein.

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THQ INC.
INDEX TO ANNUAL REPORT ON FORM 10-K
FILED WITH THE SECURITIES AND EXCHANGE COMMISSION
YEAR ENDED DECEMBER 31, 2001

ITEMS IN FORM 10-K

				PAGE
Facing page
Part I
Item 1.		Business		1
Item 2.		Properties		13
Item 3.		Legal Proceedings		14
Item 4.		Submission of Matters to a Vote of Security Holders		14
Part II
Item 5.		Market for the Registrant’s Common Equity and Related Stockholder Matters		15
Item 6.		Selected Financial Data		17
Item 7.		Management’s Discussion and Analysis of Financial Condition and Results of Operations.		18
Item 7A.		Quantitative and Qualitative Disclosures About Market Risk		32
Item 8.		Financial Statements and Supplementary Data		32
Item 9.		Changes in and Disagreements with Accountants on Accounting and Financial Disclosure.		32
Part III
Item 10.		Directors and Executive Officers of the Registrant		33
Item 11.		Executive Compensation		33
Item 12.		Security Ownership of Certain Beneficial Owners and Management		33
Item 13.		Certain Relationships and Related Transactions		33
Part IV
Item 14.		Exhibits, Financial Statement Schedule and Reports on Form 8-K		34
Signatures				37

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This Annual Report contains, or incorporates by reference, certain statements that may be deemed “forward-looking statements” within the meaning of the Private Securities Litigation Reform Act of 1995. Such statements appear in a number of places in this Report, including, without limitation, “Business” and “Management Discussion and Analysis of Financial Condition and Results of Operations.” These statements are based on current expectations, estimates and projections about the Company’s business based, in part, on assumptions made by management. These statements are not guarantees of future performance and involve risks, uncertainties and assumptions that are difficult to predict. Therefore, actual outcomes and results may differ materially from what is expressed or forecasted in such forward-looking statements due to numerous factors, including those described above and the following: changes in demand for the Company’s products, product mix, the timing of customer orders and deliveries, the impact of competitive products and pricing and difficulties encountered in the integration of acquired businesses. In addition, such statements could be affected by growth rates and market conditions relating to the interactive software industry and general domestic and international economic conditions. Specific information concerning these and other such factors is contained in our Registration Statement on Form S-3 filed with the Securities Exchange Commission on January 22, 2002, as amended. A copy of this filing may be obtained by contacting us or the SEC. The forward-looking statements contained herein speak only as of the date on which they are made, and we do not undertake any obligation to update any forward-looking statement to reflect events or circumstances after the date of this Annual Report.

PART I

Item 1. BUSINESS

Introduction

We are a leading global developer and publisher of interactive entertainment software for the major hardware platforms in the home video game market. We currently develop and publish titles for Sony PlayStation 2, Microsoft Xbox, Nintendo GameCube, Nintendo Game Boy Advance, PCs, wireless devices and online. Our titles span most major interactive entertainment software genres, including action, adventure, children’s, driving, fighting, puzzle, role playing, simulation, sports and strategy.

Our software is based on intellectual property licensed or assigned from third parties or created internally. We continually seek to identify and develop titles based on content from other entertainment media (such as movies and television programs), sports and entertainment personalities, popular sports and trends or concepts that have high public visibility or recognition or that reflect the trends of popular culture. We license intellectual property from World Wrestling Federation Entertainment, Nickelodeon, Disney, Sega, Time Warner, Tetris Company, Mattel, LucasArts and others. Our portfolio of licensed brands includes the World Wrestling Federation, Britney Spears, Rugrats, SpongeBob SquarePants, Scooby-Doo, Star Wars, Hot Wheels, Power Rangers, Disney/Pixar’s Monsters, Inc. and others.

We also develop software based on brands created by our eight internal development studios and by external developers under contract with us. Our original brands include Red Faction™, MX 2002 featuring Ricky Carmichael, Summoner™, New Legends and Dark Summit™. Other than games that we release on PCs, all of our products are manufactured for us by Sony, Nintendo and Microsoft or their authorized vendors.

We recently entered into a master interactive license agreement with Nickelodeon that grants us the exclusive right to develop and publish games based on all existing and future individual Nickelodeon animated TV and movie properties targeting children ages 6-11 on every game system through 2005. In addition, we also entered into an agreement with Nickelodeon to jointly create, develop and publish original video game content with multi-media franchise potential through Nickelodeon’s television, movie, on-line, magazine and consumer product network. The first title we are working on under this agreement is the character-based action-adventure Tak and The Power of JuJu (working title), which is scheduled for release on PlayStation 2 and GameCube in 2003.

In North America, we market and distribute our software to customers including Wal-Mart, Toys “R” Us, Target, Electronics Boutique, Best Buy, GameStop, Kay Bee Toys and other regional and national general merchandisers, discount store chains, and specialty retailers. Outside North America, we market and distribute our software to retailers in 70 countries and territories through offices in the United Kingdom, France, Germany and Australia.

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In the year ended December 31, 2001, our net sales increased to $379.0 million from $347.0 million in 2000, $303.5 million in 1999, $216.7 million in 1998 and $90.2 million in 1997, representing a compound annual growth rate since 1997 of 43%. During the year ended December 31, 2001, our net income was $36.0 million, as compared to $18.2 million for the year ended December 31, 2000.

We are a Delaware corporation that was incorporated in 1997. We were formerly incorporated in New York in 1989 under the name Trinity Acquisition Corporation, which changed its name in 1990 to T.HQ, Inc. through a merger with T.HQ, Inc., a California corporation. Our principal executive offices are located at 27001 Agoura Road, Calabasas Hills, California 91301, and our telephone number is (818) 871-5000. Our web site is at www.thq.com.

THQ and the THQ logo are trademarks and/or registered of THQ Inc. Nintendo®, Nintendo Entertainment System® (“NES”), Super Nintendo Entertainment System® (“SNES”), Game Boy®, Game Boy Color®, Game Boy Advance, GameCube and Nintendo 64® are trademarks and/or registered trademarks of Nintendo of America Inc. (“Nintendo”). Sega®, Genesis®, Game Gear®, Saturn® and Dreamcast® are registered trademarks of Sega of America, Inc. (“Sega”). Sony PlayStation® and Sony PlayStation® 2 are trademarks and/or registered trademarks of Sony Computer Entertainment Inc. (“Sony”). Microsoft Xbox is a trademark of Microsoft Corporation (“Microsoft”). Red Faction, Summoner, Dark Summit, Cedar Ridge Construction, Heavy Iron Studios®, Helixe, Pacific Coast Power & Light Company, Genetic Anomalies, Volition, THQ Wireless, Rainbow Studios and Rainbow Multimedia, Cranky Pants Studios and their respective logos are trademarks and/or registered trademarks of THQ Inc. All other trademarks are property of their respective owners. Microsoft, Nintendo and Sony are referred to herein collectively as the “manufacturers.”

Recent Developments

On March 8, 2002, we announced that our Board of Directors declared a three-for-two stock split of our shares of common stock to be effected in the form of a 50% stock dividend, which will be distributed on or about April 9, 2002, to stockholders of record as of the close of business on March 26, 2002. The effect of the stock dividend is not reflected in the consolidated financial statements.

The Interactive Entertainment Industry And Technology

The home interactive game market consists of software distributed on disc and cartridge media for use solely on dedicated hardware systems, and software distributed on CD-ROMS for use on PCs. Disc media includes DVD-ROM discs for use on the Sony PlayStation 2 and Microsoft Xbox, proprietary discs for use on the Nintendo GameCube and CD-ROM discs for use on the Sony PlayStation. The Nintendo Game Boy Advance is the only current platform that uses cartridges. Until 1996, most software for dedicated platforms was sold in cartridge form. Since then, disc-based products have become increasingly popular because they have substantially greater data storage capacity and lower costs than cartridges.

The first modern platform was introduced by Nintendo in 1985 using 8-bit technology. 8-bit means that the central processing unit, or chip, on which the software operates is capable of processing data in 8-bit units. Subsequent advances in technology have resulted in continuous increases in the processing power of the chips that power both the consoles and PCs. As the technology of the hardware has advanced, the software has similarly advanced, with faster and more complex images, more lifelike animation and sound effects and more intricate scenarios. The larger data storage capacity of disc-based media for systems such as the Sony PlayStation 2, Microsoft Xbox and the Nintendo GameCube enables them to provide richer content and longer play. This new generation of systems is based primarily on 128-bit technology. The latest hand-held platform, Game Boy Advance, uses 32-bit technology.

The following table sets forth the year in which each of the manufacturers’ platforms, for which we have published titles and technology, were released in the United States:

Date of U.S.

Manufacturer

Product Name

Introduction

Media Format

Technology

Nintendo Nintendo Sega Sega

NES Game Boy Game Gear Genesis

1985 1989 1991 1989

Cartridge Cartridge Cartridge Cartridge

8-bit 8-bit (portable) 8-bit (portable) 16-bit

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Date of U.S.

Manufacturer

Product Name

Introduction

Media Format

Technology

Nintendo Sega Sony Nintendo Nintendo Sega Sony Nintendo Nintendo Microsoft

SNES Saturn PlayStation Nintendo 64 Game Boy Color Dreamcast PlayStation 2 Game Boy Advance GameCube Xbox

1991 1995 1995 1996 1998 1999 2000 2001 2001 2001

Cartridge       Cartridge       CD-ROM Disc       Cartridge       Cartridge       CD-ROM Disc       DVD-ROM Disc       Cartridge       Proprietary Disc       DVD-ROM Disc

16-bit 32-bit 32-bit 64-bit 16-bit (portable) 128-bit 128-bit 32-bit (portable) 128-bit 128-bit

Sony launched PlayStation 2, the successor to PlayStation, in the North American market in October 2000. Nintendo launched the handheld Game Boy Advance platform in June 2001 and the GameCube platform in November 2001. Microsoft also launched a new platform, Xbox, in November 2001. Software for the new platforms requires different standards of design and technology to fully exploit their capabilities. The introduction of new platforms also requires that game developers devote substantial additional resources to product design and development.

Business Strategy

Our corporate goal is to expand market share while increasing profitability. We believe that our success in the following strategic imperatives will position us well to exploit the new console cycle and other growth opportunities:

•		Build a well-diversified product portfolio across brand, genre and platform. Due to constantly changing consumer demand and hardware platforms, we believe it is important to offer a diversified portfolio of titles. We have worked to grow and diversify our product portfolio by securing additional content licenses, creating our own brands and content, seeking out unique co-development relationships (i.e. Nickelodeon and Sega) and supporting multiple platforms. Through licensing agreements with World Wrestling Federation Entertainment, Nickelodeon, Disney, Sega, Time Warner, Tetris Company, Mattel, LucasArts and others, we have diversified our portfolio of popular licensed brands to include World Wrestling Federation, Britney Spears, Rugrats, SpongeBob SquarePants, Scooby-Doo, Star Wars, Hot Wheels, Power Rangers and Disney/Pixar’s Monsters, Inc. and other titles. We also have eight internal development studios that focus on developing our original brands. Our titles span a wide spectrum of genres. We currently develop and publish for all existing major interactive entertainment hardware platforms. We will continue to work towards building a well-diversified product portfolio by obtaining additional licenses, increasing our internal brands and publishing titles across multiple platforms.
•		Establish strong technology and internal development capabilities. We believe it is important for our business to expand our internal development capabilities. We have increased our internal development capabilities through the acquisition and formation of development studios, consisting of Outrage Games (“Outrage”), Cranky Pants Games, Genetic Anomalies, Inc. (“GA”), Heavy Iron Studios® (“Heavy Iron”), Helixe, Pacific Coast Power & Light Company (“PCP&L”), Rainbow Multimedia Group, Inc., also known as Rainbow Studios, (“Rainbow”) and Volition, Inc. (“Volition”). Since 2000, we have launched internally developed games, including Red Faction, MX2002 featuring Ricky Carmichael, Summoner, Rocket Power: Dream Scheme and Evil Dead: Hail to the King. We will continue to improve our internal development capabilities by selectively acquiring or establishing development studios.
•		Expand internationally. International markets represent a significant growth opportunity for us. We operate offices in the United Kingdom, Germany, France and Australia and distribute our products in 66 other countries and territories. We have a dedicated group that adapts our titles for international markets by localizing language and other cultural features. We will continue to expand internationally by establishing offices in new territories, developing and acquiring content that has international appeal, possibly acquiring foreign development studios and targeting wireless devices and online gaming applications to appropriate foreign markets.
•		Prudently invest in emerging applications such as wireless and online gaming. We are selectively pursuing opportunities within wireless gaming that we believe will allow us to benefit from the rapid growth projected for this emerging market while remaining consistent with our focus on profitability. In wireless gaming, we are

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		working with key wireless platform and service providers to leverage our existing technologies and content rather than spending heavily on new technologies and content. Our initial wireless titles, based on World Wrestling Federation Entertainment and various Intellivision licensed content, were released in December 2001. Our first online gaming title, WWF: With Authority!, was developed by one of our internal studios and was released in February 2001. We released our second online game, Sky Sports Football Manager, a soccer management game, in the United Kingdom market in November 2001 through NI Sports using a content and distribution agreement with Sky Sports. In addition, Sony and Microsoft have both announced plans to offer online capabilities for their respective hardware platforms and we intend to take advantage of these online capabilities.
•		Increase profit margins through effective execution and disciplined management. Profitability continues to be a leading corporate focus. We continue to (i) utilize strict ordering and inventory controls to reduce inventory risk; (ii) proactively work with key customers to manage inventories, reduce the need for allowances or price protection, accelerate cash collection and reduce accounts receivable; (iii) scrutinize costs and minimize corporate overhead and (iv) build an experienced management team and a financial and operating system infrastructure based on sophisticated technology. We believe that our continued emphasis on all of these practices will help us increase profitability and stockholder value in the future.

We intend to continue pursuing potential acquisition transactions consistent with these strategies. In addition, in order to create a closer relationship with independent developers, we may from time to time make investments or acquire interests in independent developers.

Titles

We have released an aggregate of 320 titles as of December 31, 2001 which includes 6 Sony PlayStation 2 titles, 2 online titles, 15 Nintendo Game Boy Advance titles, 2 Microsoft Xbox titles, 2 wireless titles and 37 PC titles. We continually seek to acquire licenses and create original content (brands) to publish and distribute additional titles.

The following tables set forth, for each platform, the published titles (i) released by us in 2001 and anticipated to be released in 2002, and (ii) the date of release (or anticipated release) of each title. We cannot assure you that each of the titles anticipated for release in 2002 will be released when scheduled, if ever.

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TITLES RELEASED IN 2001

						Release
Title		Category		Platform		Date
CROC 2		Adventure		Game Boy Color		1/01
Action Man: Search for Base X		Action		Game Boy Color		1/01
Championship Motocross 2001 Featuring Ricky Carmichael		Racing		PlayStation		1/01
WWF: With Authority!		Card Game		Online		2/01
Scooby-Doo! Classic Creep Capers		Adventure		Game Boy Color		2/01
SpongeBob SquarePants: Legend of The Lost Spatula		Children’s Games		Game Boy Color		2/01
The Simpson’s: Night of the Living Treehouse of Horror		Action		Game Boy Color		3/01
Aidyn Chronicles: The First Mage		Role Playing		Nintendo 64		3/01
Summoner		Role Playing		PC CD-ROM		3/01
Rocket Power: Gettin’ Air		Children’s Games		Game Boy Color		3/01
MTV Sports: T.J. Lavin’s Ultimate BMX		Extreme Sports		PlayStation		3/01
Aliens: Thanatos Encounter		Action		Game Boy Color		3/01
Evil Dead: Hail to the King		Adventure		PC CD-ROM		3/01
Blues’ Clues: Big Band Musical		Children’s Games		PlayStation		3/01
Star Wars Episode One: Battle for Naboo		Adventure		Nintendo 64		3/01
Indiana Jones and the Infernal Machine		Action/Adventure		Game Boy Color		3/01
Rugrats: Totally Angelica		Children’s Games		PlayStation		4/01
Power Rangers Time Force		Action		Game Boy Color		5/01
Red Faction		Shooter		PlayStation 2		5/01
Matchbox: Emergency Patrol		Adventure		Game Boy Color		5/01
Disney’s Atlantis: The Lost Empire		Action		Game Boy Color		5/01
EA Soccer Stars 2001		Sports		Game Boy Color		5/01
GT Advance Championship Racing		Racing		Game Boy Advance		6/01
MX 2002 Featuring Ricky Carmichael		Racing		PlayStation 2		6/01
Prince Naseem Boxing		Boxing		Game Boy Color		7/01
WWF Betrayal		Fighting		Game Boy Color		8/01
Matchbox Emergency Patrol		Adventure		PC CD-ROM		8/01
Bob The Builder: Can We Fix It?		Children’s Games		PC CD-ROM		8/01
Bob The Builder: Fix It Fun!		Children’s Games		Game Boy Color		8/01
Bob The Builder: Can We Fix It?		Children’s Games		PlayStation		9/01
Disney’s Atlantis: The Lost Empire		Action		Game Boy Advance		9/01
Hot Wheels: Extreme Racing		Racing		PlayStation		9/01
Hot Wheels: Jetz		Flying		PC CD-ROM		9/01
Hot Wheels: Mechanix		Racing		PC CD-ROM		9/01
MX 2002 Featuring Ricky Carmichael		Racing		Game Boy Advance		9/01
Power Rangers Time Force		Action		PC CD-ROM Game Boy Advance		9/01
Red Faction		Shooter		PC CD-ROM		9/01
Rocket Power: Dream Scheme		Children’s Games		Game Boy Advance		9/01
Rocket Power: Team Rocket Rescue		Extreme Sports		PlayStation		9/01
Rugrats: Castle Capers		Children’s Games		Game Boy Advance		9/01
SpongeBob SquarePants: Operation Krabby Patty		Children’s Games		PC CD-ROM		9/01
SpongeBob SquarePants: SuperSponge		Children’s Games		PlayStation		9/01
Tetris Worlds		Puzzle		Game Boy Advance		9/01
B.A.S.S. Strike		Sports Simulation		PlayStation 2		10/01
Disney/Pixar’s Monsters, Inc.		Action/Adventure		Game Boy Color Game Boy Advance		10/01
Power Rangers Time Force		Action		PlayStation		10/01
Rocket Power: Extreme Arcade Games		Children’s Games		PC CD-ROM		10/01
Rugrats: All Growed Up		Children’s Games		PC CD-ROM		10/01
The Wild Thornberrys: Chimp Chase		Children’s Games		Game Boy Advance		10/01
Scooby-Doo! and the Cyber Chase		Adventure		PlayStation Game Boy Advance		10/01

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						Release
Title		Category		Platform		Date
Jimmy Neutron: Boy Genius		Children’s Games		PC CD-ROM Game Boy Advance		11/01
SpongeBob SquarePants: SuperSponge		Children’s Games		Game Boy Advance		11/01
Tetris Worlds		Puzzle		PC CD-ROM		11/01
WWF Road To Wrestlemania		Fighting		Game Boy Advance		11/01
Dark Summit		Extreme Sports		PlayStation 2 Xbox		11/01
WWF SmackDown! “Just Bring It”		Fighting		PlayStation 2		11/01
Hot Wheels: Burnin’ Rubber		Racing		Game Boy Advance		11/01
Sky Sports Football Manager		Sports		Online		11/01
Star Wars Jedi Power Battles		Action/Adventure		Game Boy Advance		11/01
MX 2002 Featuring Ricky Carmichael		Racing		Xbox		12/01
WWF: Mobile Madness		Fighting		Wireless		12/01
Astrosmash!		Action		Wireless		12/01

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TITLES RELEASED AND ANTICIPATED TO BE RELEASED IN 2002 (1)

					Release
Title		Category		Platform	Date
Snood*		Puzzle		Wireless		2/02
Snood 21*		Puzzle		Wireless		2/02
MotoGP*		Racing		Wireless		2/02
Dark Summit*		Extreme Sports		GameCube		2/02
WWF Raw*		Fighting		Xbox		2/02
Columns Crown*		Action/Adventure		Game Boy Advance		2/02
Sonic Advance*		Action/Adventure		Game Boy Advance		2/02
Puyo Pop*		Action/Adventure		Game Boy Advance		2/02
New Legends*		Action/Adventure		Xbox		2/02
Matchbox: Rescue Rigs*		Children’s Games		PC CD-ROM		2/02
MotoGP*		Racing		Game Boy Advance		3/02
Tetris Worlds*		Puzzle		PlayStation 2		3/02
Baseball Advance*		Sports		Game Boy Advance		3/02
Tetris		Puzzle		Wireless		Spring ‘02
Star Wars: Episode II Attack of the Clones		Action/Adventure		Game Boy Advance		Spring ‘02
Britney’s Dance Beat		Dance		PlayStation 2 Game Boy Advance PC CD-ROM		Spring ‘02
Jimmy Neutron: Boy Genius		Children’s Games		PlayStation 2 GameCube		Spring ‘02
The Ripping Friends		Action		Game Boy Advance		Spring ‘02
The Pinball of the Dead		Action/Adventure		Game Boy Advance		Spring ‘02
MotoGP		Racing		Xbox		Spring ‘02
Scooby-Doo Night of 100 Frights		Adventure		PlayStation 2		Spring ‘02
Scooby-Doo The Motion Picture		Adventure		Game Boy Advance		Spring ‘02
Hey Arnold! The Movie		Children’s Games		Game Boy Advance		Spring ‘02
WWF Wrestlemania X8		Fighting		GameCube		Spring ‘02
MX Superfly		Racing		PlayStation 2 GameCube		Spring ‘02
Tetris Worlds		Puzzle		GameCube Xbox		Summer ‘02
Smash Pack		Action/Adventure		Game Boy Advance		Summer ‘02
Toxic Grind™		Extreme Sports		Xbox GameCube		Summer ‘02
Power Rangers Wild Force		Action		Game Boy Advance		Summer ‘02
Rocket Power: Beach Bandits		Children’s Games		GameCube PlayStation 2		Summer ‘02
Summoner 2		Role Playing		PlayStation 2		Summer ‘02
Scooby-Doo Night of 100 Frights		Adventure		GameCube		Summer ‘02
Pride FC		Fighting		PlayStation 2		Summer ‘02
Jimmy Neutron (working title)		Children’s Games		PC CD-ROM Game Boy Advance		Fall ‘02
Rugrats (working title)		Children’s Games		GameCube PlayStation 2 Game Boy Advance		Fall ‘02
Rocket Power: Beach Bandits		Children’s Games		Game Boy Advance		Fall ‘02
Hot Wheels (working title)		Racing		PlayStation 2		Fall ‘02
MX Superfly		Racing		Xbox		Fall ‘02
SpongeBob SquarePants: Revenge of the Flying Dutchman		Children’s Games		GameCube PlayStation 2 Game Boy Advance		Fall ‘02
SpongeBob SquarePants (working title)		Children’s Games		PC CD-ROM		Fall ‘02
The Wild Thornberrys: The Movie		Children’s Games		PC CD-ROM Game Boy Advance		Fall ‘02

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					Release
Title		Category		Platform	Date
Disney/Pixar’s Monsters, Inc. (working title)		Action/Adventure		GameCube		Fall ‘02
Battle Bots		Fighting		GameCube PlayStation 2		Fall ‘02
Red Faction 2		Shooter		PlayStation 2		Fall ‘02

Intellectual Property Licenses

Our strategy includes the creation of exciting games based on licensed properties that have attained a high level of consumer recognition or acceptance. We have relationships with a number of licensors, including World Wrestling Federation Entertainment, Disney, Nickelodeon, Saban, Sega, Tetris Company, Mattel, LucasArts and Warner Brothers.

We pay royalties to our property licensors that generally range from 3% to 25% of our net sales of the corresponding title. We typically advance payments against minimum guaranteed royalties over the license term. License fees tend to be higher for properties with proven popularity and less perceived risk of commercial failure. To the extent competition intensifies for licenses of highly desirable properties, we may encounter difficulty in obtaining or renewing these licenses. See — “Competition.” Licenses are of variable duration, may be exclusive for a specific title or line of titles, and may in some instances be renewable upon payment of certain minimum royalties or the attainment of specified sales levels. Other licenses are not renewable upon expiration, and it cannot be assured that we and the licensor will reach agreement to extend the term of any particular license.

Our property licenses usually grant us exclusive use of the property for the specified titles, on specified platforms, within a defined territory and during the license term. Licensors typically however, retain the right to exploit the property for all other purposes, including the right to license the property for use with other platforms and have general approval rights. Our games based on a particular property for use with one or more particular platforms may compete with games published by other companies that are based on the same property but for a different platform.

Agreement With JAKKS Pacific, Inc.

We entered into an agreement with JAKKS Pacific, Inc. (“JAKKS”), as recently amended, to govern our relationship with respect to the World Wrestling Federation license we jointly obtained from World Wrestling Federation Entertainment in June 1999. Our relationship with JAKKS was established to develop, manufacture, distribute, market and sell video games, as well as sublicense products pursuant to the license from World Wrestling Federation Entertainment. The principal terms of this operating agreement are as follows:

	•		We are responsible for funding all operations of the venture, including all payments owed to World Wrestling Federation Entertainment.
	•		For the period commencing November 16, 1999 and ending June 30, 2006, JAKKS is entitled to receive a preferred payment equal to the greater of a fixed guarantee, payable quarterly, or specified percentages of the net sales from World Wrestling Federation Entertainment-licensed games (as defined) in amounts that vary based on the platform. The payment of these amounts is guaranteed by us. We are entitled to the profits and cash distributions remaining after the payment of these amounts.
	•		For periods after June 30, 2006, the amount of the preferred payment will be subject to renegotiation between the parties. An arbitration procedure is specified in the event the parties do not reach agreement.
	•		We are responsible for the day-to-day operations of the venture. We are responsible for development, sales and distribution of the World Wrestling Federation Entertainment-licensed games, and JAKKS is responsible for the approval process and other relationship matters with World Wrestling Federation Entertainment. We and JAKKS co-market the games.

For financial reporting purposes, we are deemed to control the venture; therefore, all joint venture operating results are consolidated with our results.

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In November 2001, through our relationship with JAKKS, we entered into a letter of intent to expand the World Wrestling Federation license to include exclusive rights to other wrestling content produced by World Wrestling Federation Entertainment. In exchange for these rights we have agreed to increase the minimum guarantee payable to World Wrestling Federation Entertainment through December 31, 2009.

Platform Licenses

Our business is dependent on our license agreements with the manufacturers. All of these licenses are for fixed terms and are not exclusive. Each license grants us the right to develop, publish and distribute titles for use on such manufacturer’s platform(s), and requires that each such title be approved by the manufacturer prior to development of the software and embodied in products that are manufactured solely by such manufacturer or (in the case of Microsoft) its authorized vendor.

The following table sets forth information with respect to our platform licenses. In some instances, we have more than one platform license for a particular platform.

Manufacturer		Platform		Territory	Expiration Date(s)
Nintendo		Nintendo 64		North America and Latin America		May 2003
Nintendo		Nintendo 64		Europe, Australia and New Zealand		January 2004
Nintendo		Game Boy Color		North America and Latin America		March 2004
Nintendo		Game Boy Color		Europe, Australia and New Zealand		October 2002
Nintendo		Game Boy Advance		Western Hemisphere		July 2004
Nintendo		Game Boy Advance (1)		Europe, Australia and New Zealand		(1)
Nintendo		GameCube (1)		(1)		(1)
Sony		PlayStation		United States, Canada and Mexico		August 2002
Sony		PlayStation		Europe, Australia and New Zealand		December 2005
Sony		PlayStation 2		United States and Canada		March 2003
Sony		PlayStation 2 (1)		Europe		(1)
Microsoft		Xbox		(2)		November 2004

Nintendo charges us an amount for each Nintendo Game Boy Advance and Game Boy Color cartridge. This amount varies based, in part, on the memory capacity of the cartridges. Nintendo GameCube, Sony and Microsoft contracts include a charge for every disc manufactured. The amounts charged by the manufacturers include a manufacturing, printing and packaging fee as well as a royalty for the use of the manufacturer’s name, proprietary information and technology, and are subject to adjustment by the manufacturers at their discretion. The manufacturers have the right to review, evaluate and approve a prototype of each title and the title’s packaging.

In addition, we must indemnify the manufacturers with respect to all loss, liability and expense resulting from any claim against the manufacturer involving the development, marketing, sale or use of our games, including any claims for copyright or trademark infringement brought against the manufacturer. As a result, we bear a risk that the properties upon which the titles are based, or that the information and technology licensed from the manufacturer and incorporated in the products, may infringe the rights of third parties. Our agreements with our independent software developers and property licensors typically provide for us to be indemnified with respect to certain matters. If any claim is brought by a manufacturer against us for indemnification, however, our developers or licensors may not

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have sufficient resources to in turn, indemnify us. Furthermore, these parties’ indemnification of us may not cover the matter that gives rise to the manufacturer’s claim.

Each platform license may be terminated by the manufacturer if a breach or default by us is not cured after we receive written notice from the manufacturer, or if we become insolvent. Upon termination of a platform license for any reason other than our breach or default, the manufacturer has the right to purchase from us, at the price paid by us, any product inventory manufactured by such manufacturer that remains unsold for a specified period after termination. We must destroy any such inventory not purchased by the manufacturer. Upon termination as a result of our breach or default, we must destroy any remaining inventory, subject to the right of any of our institutional lenders to sell such inventory for a specified period.

Software Design And Development

After we acquire a property from a licensor or develop a concept internally, we design and develop a game with features intended to utilize the characteristics of the property and to appeal to the game’s target consumers. Our software development process generally takes one of two forms.

Internal Development. The in-house development of product is currently conducted by our studios: Outrage, Cranky Pants Games, GA, Heavy Iron, Helixe, PCP&L, Rainbow and Volition. The head of each studio reports to our Executive Vice President — Worldwide Studios. Our studios are staffed by producers, game designers, software engineers, artists, animators and game testers. In May, 2001 we started a new development studio in Grass Valley, California named Cedar Ridge Construction. We have since made this studio a second location of PCP&L and no longer refer to it as Cedar Ridge Construction. We acquired Rainbow in December 2001. In February, 2002 we formed a new studio in Seattle, Washington named Cranky Pants Games. In March 2002, we formed a new studio in Ann Arbor, Michigan named Outrage Games.

External Development. Our external development is supervised by our Vice President — Product Development. We contract with independent software developers to conceptualize and develop games under our supervision. Our agreements with software developers are usually entered into on a game-by-game basis and generally provide for the payment of the greater of a fixed amount or compensation based on actual sales. The compensation is based on a percentage of net sales ranging from 4% to 20% for some developers, while others are based on a fixed amount per unit sold and range from $.50 to $5.00 per unit. We generally pay our developers installments of the fixed fee based on specific development milestones. We generally obtain ownership of the software code and related documentation. We may make strategic investments in third party developers for the purpose of securing access to proprietary software and talented developers.

Upon completion of development, each game is extensively play-tested by us and sent to the manufacturer for its review and approval. Related artwork, user instructions, warranty information, brochures and packaging designs are also developed under our supervision. The development cycle for a new game, including the development of the necessary software, approval by the manufacturer and production of the initial products, typically has ranged from 12 to 30 months for home console games and 7 to 12 months for handheld games. This relatively long development cycle requires that we assess whether there will be adequate retailer and consumer demand for a game well in advance of its release.

Manufacturing

Other than games that we release on PCs, all of our products are manufactured for us by the manufacturers or their authorized vendors.

The manufacturing process begins with our placing a purchase order with a manufacturer and opening either a letter of credit in favor of the manufacturer or utilizing our line of credit with the manufacturer. We then send the software code and a prototype of the game to the manufacturer, together with related artwork, user instructions, warranty information, brochures and packaging designs, for approval, defect testing and manufacture. Nintendo typically delivers products to us within 15 to 60 days of its receipt of an order and a corresponding letter of credit and Sony typically delivers products to us within 10 to 24 days. Microsoft’s authorized vendors typically deliver products to us within 10-15 days.

We are required by the platform licenses to provide a standard defective product warranty on all of the products sold. Generally, we are responsible for resolving, at our own expense, any warranty or repair claims. We have not experienced any material warranty claims.

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Marketing, Sales and Distribution

We are dependent on the popularity of our games based on licensed properties and positive awareness of our original game concepts to attract customers and to obtain shelf space in stores. Our domestic sales activities are directed by our Executive Vice President — North American Publishing, who maintains contact with major retail accounts and manages the activities of our internal sales staff.

North American Sales. Our games are promoted to retailers by display at trade shows such as the annual Electronic Entertainment Expo (E3). We also conduct print and cooperative retail advertising campaigns for most titles and prepare promotional materials, including product videos, to increase awareness among retailers and consumers.

Our marketing efforts for products released in 2001 included national television, print, radio and Internet advertising and promotional campaigns. Products shipped in 2001 that received television support included WWF SmackDown! “Just Bring It”, MX 2002 Featuring Ricky Carmichael, Bob The Builder, Jimmy Neutron: Boy Genius, Rocket Power, Scooby-Doo, and SpongeBob SquarePants. Our games were supported by promotions such as trailers, demo discs, over-sized boxes, standees, posters, and pre-sell giveaways at retail, game kiosks at sporting and outdoor events, rebates and contests with national packaged goods companies and fast food restaurants and co-marketing efforts with the hardware manufacturers. Product public relations for 2001 included cover, feature, preview, review and round-up coverage in broadcast, print and online media targeting enthusiast, lifestyle and major mainstream outlets. Additionally, we continue to increase our corporate public relation efforts, establishing relationships with leading technology and business reporters.

We utilize electronic data interchange with most of our major domestic customers in order to (i) efficiently receive, process and ship customer product orders, and (ii) accurately track and forecast sell-through of products to consumers in order to determine whether to order additional products from the manufacturers. The electronic data interchange system is integrated with our enterprise resource planning system which allows for further efficiencies in the items mentioned above. We ship most of our products to our domestic customers from a public bonded warehouse located in Ohio.

In the past, we supplemented the efforts of our sales employees with independent sales representatives. Starting in January 2002, all sales efforts will be handled by our own sales employees.

The domestic retail price for our titles currently ranges between $20 and $30 for Game Boy Color, between $30 and $40 for Game Boy Advance, between $10 and $40 for PlayStation, between $30 and $50 for PlayStation 2, $50 for Xbox, $50 for GameCube and between $10 and $50 for PC games.

International Sales. Our international sales activities are directed by our Senior Vice President — International Publishing via our international offices in the United Kingdom, France, Germany and Australia. International offices market and distribute direct-to-retail in their home territories as well as market and distribute finished goods to 66 additional territories via a sub-distribution network. In 2001, international net sales grew 51% as compared to the same period in 2000 due to our offices in France and Australia conducting business for a full year in 2001 and an expanded product offering.

Concentration of Sales. Some of our individual titles make up a substantial portion of our gross sales. The following includes games that generated more than 10% of our gross sales over the last three years. WWF SmackDown! “Just Bring It” on the Sony PlayStation 2 was the only title to makeup more than 10% of our gross sales in 2001 at 14.6%. In 2000, sales for WWF SmackDown! on the Sony PlayStation, WWF SmackDown! 2 (Know Your Role) also on the Sony PlayStation and WWF No Mercy for the Nintendo 64 were 16.9%, 16.0% and 15.5% of gross sales, respectively. In 1999, sales for WCW/NWO Thunder for the Sony PlayStation, WWF Wrestlemania for the Nintendo 64 and Rugrats: Search for Reptar for the Sony PlayStation were 12.7%, 12.9% and 11.5%, of gross sales, respectively.

Our sales are made directly to retailers and independent distributors. We distribute our games primarily to mass merchandisers and national retail chain stores, including Wal-Mart, Toys “R” Us, Target, Electronics Boutique, Best Buy, GameStop and Kay Bee Toys. We do not have any written agreements or other understandings with any of our customers that relate to their future purchases, so our customers may terminate their purchases from us at any time.

Revenue Fluctuations and Seasonality. We have experienced, and will likely continue to experience, significant quarterly fluctuations in net sales and operating results due to a variety of factors. The software market is highly seasonal with sales typically significantly higher during the fourth quarter (due primarily to the increased demand for

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interactive games during the year-end holiday buying season). Other factors that cause fluctuations include the timing of our release of new titles, the popularity of both new titles and titles released in prior periods, changes in the mix of titles with varying gross margins, the timing of customer orders, the timing of shipments by the manufacturers, fluctuations in the size and rate of growth of consumer demand for software for various platforms, the timing of the introduction of new platforms and the accuracy of retailers’ forecasts of consumer demand. Our expenses are partially based on our expectations of future sales and, as a result, operating results would be disproportionately and adversely affected by a decrease in sales or a failure by us to meet our sales expectations. There can be no assurance that we can maintain consistent profitability on a quarterly or annual basis.

Profit margins may vary over time as a result of a variety of factors. Profit margins for cartridge products for the Game Boy platforms can vary based on the cost of the memory chip used for a particular title. Disc-based products have significantly lower per unit manufacturing costs than cartridge-based products, however, they have higher development costs than cartridge-based products.

Geographic Information

We operate in one reportable segment in which we are a developer and publisher of interactive entertainment software for the leading hardware platforms in the home video game market. Wireless and online gaming may become new reportable segments as our activity in these markets increase. The following information sets forth geographic information on our sales generated by our regional offices for the years ended December 31, 2001, 2000 and 1999 (also See Note 15 to the consolidated financial statements for additional geographic information on our sales and long-lived assets):

SALES TO UNAFFILLIATED CUSTOMERS
($ in Thousands)

Intellectual Property Rights

Each game we release embodies a number of separately protected intellectual property rights of the manufacturer, the property licensor and, to a lesser extent, the external developer and us. The licensor of the property owns the trademarks, trade names, copyrights and other intellectual property rights relating to the property on which the game is based. The manufacturer owns the patents and substantially all of the other intellectual property embodied in the product and the developer, whether internal or external, often owns proprietary tools and technology embedded in the game software. While we own the game software embodied in the product, we believe that such software has little independent economic value. Accordingly, we must rely on the manufacturer and the property licensor with respect to protection from infringement of the property rights by third parties.

Each of the manufacturers incorporates security devices in its platforms and products to prevent unlicensed use. In addition, Nintendo requires its licensees to display the trademarked Nintendo Seal of Approval to notify the public that the game has been approved by Nintendo for use with a Nintendo platform.

Competition

The interactive entertainment software industry is intensely competitive. We compete with hardware manufacturers for both property licenses and software sales. Each of these manufacturers is typically the largest developer and marketer for its platforms. These companies may increase their own software development efforts. As a result of their commanding positions in the industry as the manufacturers of platforms and publishers of software for their platforms, the manufacturers generally have better bargaining positions with respect to retail pricing, shelf space and purchases than any of their licensees, including us.

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In addition to the manufacturers, our competitors include Activision, Inc., Acclaim Entertainment, Inc., Electronic Arts Inc., Midway Games Inc., Take-Two Interactive Software, Inc. and Infogrames, Inc. Each of the manufacturers has a broader software line and greater financial, marketing and other resources than us, as do some of our other competitors. Accordingly, some of our competitors may be able to market their software more aggressively or make higher offers or guarantees in connection with the acquisition of licensed properties.

At various times, toy companies, large software companies, movie studios and others have focused on the video game market resulting in greater competition for us. Additionally, many of our competitors are developing on-line interactive games and interactive networks that will be competitive with our interactive products.

As competition for retail shelf space becomes more intense, we may need to increase our marketing expenditures to maintain sales of our titles. As competition for popular properties increases, our cost of acquiring licenses for such properties may increase resulting in reduced margins. Prolonged price competition, increased licensing costs or reduced profit margins would have a material adverse effect on us.

In addition, the market for our products is characterized by significant price competition, and we may face increasing pricing pressures from our current and future competitors. Further, as the industry continues to transition from the old platforms (Sony PlayStation, Nintendo 64 and Nintendo Game Boy Color) to the next generation platforms (Sony PlayStation 2, Nintendo GameCube, Nintendo Game Boy Advance and Microsoft Xbox), there may be price erosion on the old consoles. Accordingly, there can be no assurance that competitive pressures will not require us to reduce our prices. Any material reduction in the price of our products would adversely affect operating income as a percentage of net revenue and would require us to increase unit sales in order to maintain net revenue.

Available Information

We file annual, quarterly and special reports, proxy statements and other information with the Securities and Exchange Commission (“SEC”). Our SEC filings are available to the public over the Internet at the SEC’s web site at http://www.sec.gov. You may also read and copy any document we file at the SEC’s Public Reference Room at 450 Fifth Street, N.W., Washington, D.C. 20549. You may obtain information on the operation of the Public Reference Room by calling the SEC at 1-800-SEC-0330.

Employees

As of December 31, 2001, we had 595 full-time employees, of whom 35 are located in the United Kingdom; 54 are located in Germany; 9 are located in France and 8 are located in Australia. None of our employees are represented by a labor union or covered by a collective bargaining agreement, and we believe that relations with our employees are good.

Item 2.     PROPERTIES

Our executive offices occupy approximately 45,057 square feet of office space in Calabasas Hills, California, pursuant to leases expiring in June 2002 and August 2005, respectively. We lease additional office space as follows:

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We also own 10,820 square feet of additional office space located in Phoenix, Arizona.

Item 3.     LEGAL PROCEEDINGS

We are a party to lawsuits in the normal course of our business. Litigation in general, and securities and intellectual property litigation in particular, can be expensive and disruptive to normal business operations. Moreover, the results of complex legal proceedings are difficult to predict. Other than as described below, we are not a party to any material legal proceedings.

We and certain of our officers and directors are defendants in a class action lawsuit filed in the United States District Court for the Central District of California entitled In re THQ Inc. Securities Litigation, Master File No. CV-00-1783-AHM. On December 20, 2000, the court dismissed this action with prejudice as to all of the defendants. On April 23, 2001, the United States District Court for the Central District of California modified its December 20, 2000 order and permitted plaintiffs to file a third amended complaint on that date. Defendants have filed an answer denying all of the material allegations of the third amended complaint and asserting legal and factual defenses. The third amended complaint alleges that defendants violated Rule 10b-5 and Section 20(a) of the Securities Exchange Act of 1934, including allegations that defendants manipulated the company’s stock price; distributed false and misleading information concerning revenue recognition, forecasts and earnings estimates; selectively disclosed material information; and engaged in insider trading. The complaint seeks an unspecified amount in damages. The plaintiffs are purported investors who purchased shares of our common stock from October 26, 1999 through May 24, 2000. The lawsuit is in the discovery phase and a trial date of November 12, 2002 has been set. We and all of the individual defendants have taken the position that this lawsuit is without merit. At this early stage, however, we cannot predict the likely outcome of this litigation.

Item 4.     SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS

There were no matters submitted to a vote of security holders during the fourth quarter of 2001.

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PART II

Item 5.	MARKET FOR THE REGISTRANT’S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS

The common stock is quoted on the NASDAQ National Market under the symbol “THQI.” The following table sets forth, for the periods indicated, the high and low closing sales prices of our common stock as reported by the NASDAQ National Market:

The last reported price of the common stock on March 15, 2002, as reported by NASDAQ National Market, was $46.96 per share.

Holders

As of March 15, 2002, there were approximately 289 holders of record of the common stock.

Dividend Policy

We have never paid cash dividends on our common stock. We currently intend to retain future earnings, if any, to finance the growth and development of our business and, therefore, we do not anticipate paying any cash dividends in the future. Our principal banking agreement provides that we will not pay any cash dividends.

Securities Issued in Private Transactions

On December 21, 2001, in connection with our acquisition of Rainbow Multimedia Group, Inc. (“Rainbow”), we issued an aggregate of 858,203 shares of our common stock to certain stockholders of Rainbow pursuant to the exemption from registration provided in Section 4(2) of the Securities Act of 1933, as amended. The number of shares is subject to change based on the terms of the merger agreement.

On February 1, 2002, in connection with obtaining the Nickelodeon master license, we issued to MTV Networks, a division of Viacom International Inc., warrants to purchase 50,000 shares of common stock at $43.69 per share having a fair value of $1.2 million at the time of issuance pursuant to the exemption from registration provided in Section 4(2) of the Securities Act of 1933, as amended. The warrants expire December 31, 2005.

Changes in Securities and Use of Proceeds

On November 13, 2001 we issued 2,750,000 shares of our common stock in a secondary public offering. As part of the offering, on December 12, 2001, the underwriters exercised their right to purchase an additional 314,148 shares. The net proceeds from these issuances were $154.6 million. We intend to use the net proceeds for general corporate purposes, including working capital, capital expenditures, product development, joint ventures and strategic acquisitions.

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On July 20, 2001, our shareholders approved an amendment to our Certificate of Incorporation to increase the number of authorized shares of our common stock from 35,000,000 to 75,000,000. On July 24, 2001, we amended our Certificate of Incorporation to reflect this increase in authorized shares.

As of August 22, 2001, we entered into an amended and restated Stockholders Rights Plan (the Plan) with Computershare Investor Services, LLC as Rights Agent. Pursuant to the Plan, each share of common stock has a preferred stock purchase right (Right) associated with it. Each Right entitles the holder to buy one one-thousandth (1/1000) of a share of a Series A Junior Participating Preferred Stock at a purchase price of $10 per one-one thousandth (1/1000) of a share, subject to adjustment. The Rights become exercisable (i) 10 days after a public announcement that a person or group has acquired, or has obtained a right to acquire, 15% or more of our outstanding common stock, or (ii) 10 business days following the commencement of a tender offer for 15% or more of our outstanding common stock.

In the event that any person or group acquires 15% or more of our outstanding common stock, each holder of a Right (other than such acquiring person or group) will be entitled to purchase, at the exercise price, the number of shares of common stock having a current market value equal to two times the exercise price of the Right. We may redeem the Rights in whole, but not in part, at a price of $.001 per Right (subject to adjustment and payable in cash, our common stock, or other consideration deemed appropriate by our Board of Directors) at any time until 10 days following the public announcement that any person or group has acquired 15% or more of our common stock. Unless we redeem them earlier, the rights expire on June 21, 2010. This description of the Rights does not purport to be complete and is qualified in its entirety by reference to the Amended and Restated Rights Agreement.

On March 8, 2002, we announced that our Board of Directors declared a three-for-two stock split of our shares of common stock to be effected in the form of a 50% stock dividend, which will be distributed on or about April 9, 2002, to stockholders of record as of the close of business on March 26, 2002. The effect of the stock dividend is not reflected in the consolidated financial statements.

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Item 6. SELECTED CONSOLIDATED FINANCIAL DATA

(In thousands, except per share data)

The following table presents certain selected consolidated financial data for the years 1997 through 2001. The information presented as of December 31, 2001 and 2000 and for each of the years ended December 31, 2001, 2000 and 1999 have been derived from, and are qualified by reference to, our audited consolidated financial statements included elsewhere herein. Those financial statements have been audited by Deloitte & Touche LLP, independent auditors. The information presented as of December 31, 1999 and for each of the years ended December 31, 1998 and 1997 were derived from audited financial statements that are not included elsewhere herein.

This selected consolidated financial data should be read in conjunction with “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and the Consolidated Financial Statements and Notes thereto included elsewhere herein.

The table below reflects the May 1999 pooling of interests with PCP&L, the December 1999 pooling of interests with GA and the August 2000 pooling of interests with Volition. All prior period information has been restated accordingly.

STATEMENT OF OPERATIONS DATA
(In thousands, except per share data)

				Years Ended December 31
				2001				2000				1999				1998				1997
Net sales				$	378,992			$	347,003			$	303,483			$	216,716			$	90,227
Costs and expenses:
	Cost of sales				154,898				140,699				134,563				100,019				48,127
	License amortization and royalties				33,144				34,675				28,858				19,390				6,333
	Software development amortization				35,144				42,875				19,512				28,740				8,430
	Product development				21,154				19,151				15,511				8,925				2,930
	Selling and marketing				46,745				42,446				35,440				20,326				8,733
	Payment to venture partner				8,673				17,707				6,119				—				—
	General and administrative				25,090				19,530				14,970				10,107				5,605
	In-process research and development				—				—				—				7,232				—
		Total costs and expenses			324,848				317,083				254,973				194,739				80,158
Income from operations					54,144				29,920				48,510				21,977				10,069
Interest income — net					2,572				1,323				1,109				819				472
Income before income taxes					56,716				31,243				49,619				22,796				10,541
Income taxes					20,703				13,054				18,293				9,343				1,954
Net income				$	36,013			$	18,189			$	31,326			$	13,453			$	8,587
Net income per share — basic				$	1.65			$	.91			$	1.65			$	.75			$	.53
Net income per share — diluted				$	1.52			$	.84			$	1.48			$	.63			$	.50
Shares used in per share calculation — basic					21,811				20,091				19,040				17,929				16,057
Shares used in per share calculation — diluted					23,749				21,568				21,197				21,229				17,179

BALANCE SHEET DATA
(In thousands)

		Years Ended December 31
		2001				2000				1999				1998				1997
Working capital		$	319,605			$	110,269			$	91,860			$	48,342			$	31,614
Total assets		$	487,966			$	229,942			$	184,057			$	128,218			$	56,545
Lines of credit		$	—			$	15,473			$	16,702			$	9,909			$	—
Stockholders’ equity		$	398,862			$	132,125			$	108,306			$	62,065			$	33,842

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Item 7.	MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

Overview

We are a leading global developer and publisher of interactive entertainment software for the major hardware platforms in the home video game market. We currently develop and publish titles for Sony PlayStation 2, Microsoft Xbox, Nintendo GameCube, Nintendo Game Boy Advance, PCs, wireless devices and online. Our titles span most major interactive entertainment software genres, including action, adventure, children’s, driving, fighting, puzzle, role playing, simulation, sports and strategy.

Our software is based on intellectual property licensed or assigned from third parties or created internally. We continually seek to identify and develop titles based on content from other entertainment media (such as movies and television programs), sports and entertainment personalities, popular sports and trends or concepts that have high public visibility or recognition or that reflect the trends of popular culture. Our portfolio of licensed brands includes the World Wrestling Federation, Britney Spears, Rugrats, SpongeBob SquarePants, Scooby-Doo, Star Wars, Hot Wheels, Power Rangers and Disney/Pixar’s Monsters, Inc. and others.

We also develop software based on brands created by our eight internal development studios and by external developers under contract with us. Our original brands include Red Faction, MX 2002 featuring Ricky Carmichael, Summoner, New Legends and Dark Summit. Other than games that we release on PCs, all of our products are manufactured for us by the manufacturers or their authorized vendors.

We recently entered into a master interactive license agreement with Nickelodeon that grants us the exclusive right to develop and publish games based on all existing and future individual Nickelodeon animated TV and movie properties targeting children ages 6-11 on every game system through 2005. In addition, we also entered into an agreement with Nickelodeon to jointly create, develop and publish original video game content with multi-media franchise potential through Nickelodeon’s television, movie, on-line, magazine and consumer product network. The first title we are working on under this agreement is the character-based action-adventure Tak and The Power of JuJu (working title), which is scheduled for release on PlayStation 2 and GameCube in 2003.

In North America, we market and distribute our software to customers including Wal-Mart, Toys “R” Us, Target, Electronics Boutique, Best Buy, GameStop, Kay Bee Toys and other regional and national general merchandisers, discount store chains, and specialty retailers. Outside North America, we market and distribute our software to retailers in 70 countries and territories through offices in the United Kingdom, France, Germany and Australia.

Our business cycle generally commences with the securing of a license to publish one or more titles based on a property or agreement with a proven developer to create a game based on original content. We also develop games internally through our development studios Outrage, Cranky Pants Games, GA, Heavy Iron Studios, Helixe, PCP&L, Rainbow and Volition. These licenses typically require an advance payment to the licensor and a guarantee of minimum future royalties. See—Critical Accounting Policies “Licenses” and “Software Development.” After we acquire rights to a property from a licensor or develop a concept internally, we begin software development for the title. Upon completion of development and approval of the title by the manufacturer and licensor, we order products and generally cause a letter of credit to be opened in favor of the manufacturer or obtain a line of credit from the manufacturer. Products are shipped at our expense to a public warehouse for domestic distribution or to warehouses in the United Kingdom, Germany, France or Australia for foreign distribution. We then sell directly to our major retail accounts both domestically and in the United Kingdom, Germany, France and Australia. Foreign sales to distributors in other territories are shipped directly to the customers’ locations at their expense.

Unfilled sales orders are commonly referred to as backlog. Since substantially all of our product orders are fulfilled shortly after we receive them, we do not believe that the amount of our unfilled sales orders as of the end of a period is a meaningful indicator of sales in future periods. Accordingly, we do not report the amount of our unfilled sales orders.

On December 21, 2001, we completed the acquisition of Rainbow. This acquisition has been accounted for using the purchase method of accounting under Statement of Financial Accounting Standards (“SFAS”) No. 141. Accordingly, Rainbow’s results of operations and cash flows for the last ten days of the year are included as part of

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our own. On August 31, 2000, December 13, 1999 and May 24, 1999, we completed acquisitions of Volition, GA and PCP&L, respectively. These acquisitions have been accounted for as poolings of interests under Accounting Principles Board Opinion No. 16. Accordingly, all prior period consolidated financial statements presented have been restated to include the combined results of operations, financial position and cash flows as if Volition, GA and PCP&L had always been part of our company.

Concentration of Sales. Some of our individual titles make up a substantial portion of our gross sales. The following includes games that generated more than 10% of our gross sales over the last three years. WWF SmackDown! “Just Bring It” on the Sony PlayStation 2 was the only title to make up more than 10% of our gross sales in 2001 at 14.6%. In 2000, sales for WWF SmackDown! on the Sony PlayStation, WWF SmackDown! 2 (Know Your Role) also on the Sony PlayStation and WWF No Mercy for the Nintendo 64 were 16.9%, 16.0% and 15.5% of gross sales, respectively. In 1999, sales for WCW/NWO Thunder for the Sony PlayStation, WWF Wrestlemania for the Nintendo 64 and Rugrats: Search for Reptar for the Sony PlayStation were 12.7%, 12.9% and 11.5%, of gross sales, respectively.

Most of our sales are made directly to retailers. We distribute our games primarily to mass merchandisers and national retail chain stores, including Wal-Mart (representing 14% of gross sales in 2001), Toys “R” Us (representing 12% of gross sales in 2001), Target, Electronics Boutique, Best Buy, GameStop and Kay Bee Toys. Sales to our ten largest customers collectively accounted for approximately 64% of our gross sales in 2001 and 68% of our gross sales in 2000. We do not have any written agreements or other understandings with any of our customers that relate to their future purchases, so our customers may terminate their purchases from us at any time.

Revenue Fluctuations and Seasonality. We have experienced, and will likely continue to experience, significant quarterly fluctuations in net sales and operating results due to a variety of factors. The software market is highly seasonal with sales typically significantly higher during the fourth quarter (due primarily to the increased demand for interactive games during the year-end holiday buying season). Other factors that cause fluctuations include the timing of our release of new titles, the popularity of both new titles and titles released in prior periods, changes in the mix of titles with varying gross margins, the timing of customer orders, the timing of shipments by the manufacturers, fluctuations in the size and rate of growth of consumer demand for software for various platforms, the timing of the introduction of new platforms and the accuracy of retailers’ forecasts of consumer demand. Our expenses are partially based on our expectations of future sales and, as a result, operating results would be disproportionately and adversely affected by a decrease in sales or a failure by us to meet our sales expectations. There can be no assurance that we can maintain consistent profitability on a quarterly or annual basis.

Profit margins may vary over time as a result of a variety of factors. Profit margins for cartridge products for the Game Boy platforms can vary based on the cost of the memory chip used for a particular title. Disc-based products have significantly lower per unit manufacturing costs than cartridge-based products, however, they typically have higher development costs and royalties than cartridge-based products.

Critical Accounting Policies

The consolidated financial statements are prepared in accordance with accounting principles generally accepted in the United States, which require us to make estimates and assumptions. We believe that of our significant accounting policies, the following may involve a higher degree of judgment and complexity (See Note 2 to the consolidated financial statements).

Licenses. All minimum guaranteed payments for intellectual property licenses are initially recorded as an asset (licenses) and as a liability (accrued royalties) at the contractual amount upon execution of the contract. Payments for intellectual property licenses are classified as current assets and current liabilities to the extent they relate to anticipated sales during the subsequent year and long-term assets and long-term liabilities if the sales are anticipated after one year.

Licenses are expensed to license amortization and royalties at the contractual royalty rate based on actual net product sales or on the ratio of current units sold to total projected units sold, whichever is higher. When, in management’s estimate, future cash flows will not be sufficient to recover previously capitalized costs, we expense these items to license amortization and royalties. Such charges are attributable to changes in market conditions or product quality considerations. As of December 31, 2001, we had licenses of $25.1 million. If we were required to write off

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licenses, due to changes in market condition or product quality, our results of operations could be materially adversely affected.

Software Development. We utilize both independent software developers and internal development teams to develop our software. We account for software development costs in accordance with Statement of Financial Accounting Standards (“SFAS”) No. 86, “Accounting for the Costs of Computer Software to be Sold, Leased, or Otherwise Marketed.” We capitalize software development costs once technological feasibility is established and such costs are determined to be recoverable against future revenues. For products where proven game engine technology exists, this may occur early in the development cycle. We evaluate technological feasibility on a product-by-product basis. Amounts related to software development for which technological feasibility is not met are charged immediately to product development.

Capitalized software development is expensed to software development amortization at the contractual rate based on actual net product sales or on the ratio of current units sold to total projected units sold, whichever is higher. When, in management’s estimate, future cash flows will not be sufficient to recover previously capitalized costs, we expense these items to software development amortization. Such charges are attributable to changes in market conditions or product quality considerations. As of December 31, 2001, we had software development of $39.1 million. If we were required to write off software development, due to changes in market condition or product quality, our results of operations could be materially adversely affected.

Revenue Recognition. We recognize revenue when title and risk of loss transfers to the customer, provided that no significant vendor support obligations remain outstanding and that collection of the resulting receivable is deemed probable by management. Although we generally sell our products on a no-return basis, in certain circumstances we may allow returns, price concessions, or allowances on a negotiated basis. We estimate such returns and allowances based upon management’s evaluation of our historical experience, retailer inventories, the nature of the titles and other factors. Such estimates are deducted from gross sales. Software is sold under a limited 90-day warranty against defects in material and workmanship. To date, we have not experienced material warranty claims.

Discounts, Allowances and Returns; Inventory Management. In general, except for PC titles, our arrangements with our retailers and distributors do not give them the right to return products to us (other than damaged or defective products) or to cancel firm orders. However, we sometimes negotiate accommodations to retailers (and, less often, to distributors), when demand for specific games falls below expectations, in order to maintain our relationships with our customers. These accommodations include our not requiring that all booked orders be filled, negotiated price discounts and credits against future orders. We may also permit the return of products. Arrangements made with distributors and retailers for PC titles do customarily require us to accept product returns.

At the time of product shipment, we establish allowances based on estimates of future returns and customer accommodations with respect to such products. These allowances are taken as deductions against gross sales. We base this amount on our historical experience, retailer inventories, the nature of the titles and other factors. We also establish allowances for doubtful accounts based on estimates of future bad debts based on customer credit ratings, historical experience and other factors. The allowance for doubtful accounts is expensed to general and administrative expense. For the years ended December 31, 2001, 2000 and 1999, we took provisions for future returns, customer accommodations and doubtful accounts of approximately $47.4 million, $35.4 million and $35.0 million, respectively, during such periods. As of December 31, 2001 and December 31, 2000, our aggregate reserves against accounts receivable for returns, customer accommodations and doubtful accounts were approximately $40.6 million and $31.5 million, respectively.

The identification by us of slow-moving or obsolete inventory requires us to establish reserves against such inventory or to write-down the value of such inventory to its estimated net realizable value.

Recently Issued Accounting Pronouncements. In June 1998, the Financial Accounting Standards Board (“FASB”) issued Statement of Financial Accounting Standards (“SFAS”) No. 133, “Accounting for Derivative Instruments and Hedging Activities.” SFAS No. 133, as amended, establishes accounting and reporting standards for derivative instruments, including certain derivative instruments embedded in other contracts and for hedging activities. Under SFAS No. 133, certain contracts that were not formerly considered derivatives may now meet the definition of a derivative. We adopted SFAS No. 133 effective January 1, 2001. The adoption of SFAS No. 133 did not have an impact on our financial statements.

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In June 2001, the FASB issued two new pronouncements: SFAS No. 141, “Business Combinations”, and SFAS No. 142, “Goodwill and Other Intangible Assets.” SFAS No. 141 prohibits the use of the pooling-of-interests method for business combinations initiated after June 30, 2001 and also applies to all business combinations accounted for by the purchase method that are completed after June 30, 2001. There are also transition provisions that apply to business combinations completed before July 1, 2001 that were accounted for by the purchase method. SFAS No. 142 is effective for fiscal years beginning after December 15, 2001 as to all goodwill and other intangible assets recognized in an entity’s statement of financial position at that date, regardless of when those assets were initially recognized. The acquisition of Rainbow has been accounted for under SFAS No. 141 and goodwill is not amortized. We will adopt SFAS No. 142 on January 1, 2002. We amortized approximately $404,000 of goodwill in 2001. We are currently evaluating the impairment provisions of SFAS No. 142 and have not determined the impact, if any, they will have on our financial statements.

In August 2001, the FASB issued a new pronouncement SFAS No. 144 “Accounting for the Impairment or Disposal of Long-Lived Assets.” SFAS No. 144 addresses the financial accounting and reporting issues for the impairment or disposal of long-lived assets. This statement supersedes SFAS No. 121 but retains the fundamental provisions for (a) recognition/measurement of impairment of long-lived assets to be held and used and (b) measurement of long-lived assets to be disposed of by sales. It is effective for fiscal years beginning after December 15, 2001, and interim periods within those fiscal years. The adoption of SFAS No. 144 will not have a material impact on our financial statements because it retains the fundamental provisions of SFAS No. 121 which we have already adopted.

Euro Currency Conversion

On January 1, 1999, 11 of the 15 member countries of the European Union adopted the Euro as their common legal currency. The Euro trades on currency exchanges and is available for cash transactions. From January 1, 1999 through January 1, 2002, participating countries could have maintained their national (“legacy”) currencies as legal tender for goods and services. Beginning January 1, 2002, new Euro-denominated bills and coins were issued, and legacy currencies will be withdrawn from circulation no later than July 1, 2002. Our operating subsidiaries in United Kingdom, Germany and France have been affected by the Euro conversion and have established plans to address any business issues raised including the competitive impact of cross-border price transparency. It is not anticipated that there will be any near-term business ramifications; however, the long-term implications, including any changes or modifications that will need to be made to business and financial strategies, are still being reviewed. From an accounting, treasury and computer system standpoint, the Euro currency conversion did not have a material impact on our financial position or results of operations.

Results of Operations

Comparison of the Year Ended December 31, 2001 to the Year Ended December 31, 2000

Sales by Platform

The following table sets forth our net sales by platform as a percentage of sales for the years ended December 31, 2001 and 2000:

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The following table sets forth our net sales by platform for the years ended December 31, 2001 and 2000:

Net Sales for the Years Ended		December 31,				December 31,				Increase/
(In thousands)		2001				2000				(Decrease)				% Change
Sony PlayStation 2		$	110,642			$	9,064			$	101,578				1,120.7	%
Sony PlayStation			60,340				142,429				(82,089	)			(57.6	)%
Nintendo Game Boy Advance			83,830				—				83,830				N/A
Nintendo Game Boy Color			62,569				70,379				(7,810	)			(11.1	)%
Nintendo 64			17,097				99,176				(82,079	)			(82.8	)%
Microsoft Xbox			5,111				—				5,111				N/A
PC CD-ROM			36,814				11,035				25,779				233.6	%
Other			2,589				14,920				(12,331	)			(82.6	)%
Net Sales		$	378,992			$	347,003			$	31,989				9.2	%

Sony PlayStation 2 Net Sales

We had 5 new releases of PlayStation 2 titles in 2001 whereas we only had 1 new PlayStation 2 release in 2000. Key titles for PlayStation 2 released in 2001 include Red Faction, WWF SmackDown! “Just Bring It” and MX 2002 featuring Ricky Carmichael.

Sony PlayStation Net Sales

PlayStation net sales decreased for the year ended December 31, 2001 compared to the same period of 2000 for two reasons: 1) decreased sales of WWF SmackDown! and WWF SmackDown! 2 (Know Your Role) which were both released in 2000 (we released no new WWF titles on PlayStation in 2001) and 2) the anticipated declining market for PlayStation products due to the transition to PlayStation 2.

Nintendo Game Boy Advance Net Sales

We released 15 Game Boy Advance titles during 2001 including Rocket Power: Dream Scheme, MX 2002 featuring Ricky Carmichael, Tetris Worlds, Disney/Pixar’s Monsters, Inc., Jimmy Neutron: Boy Genius and Rugrats: Castle Capers.

Nintendo Game Boy Color Net Sales

Game Boy Color net sales decreased during 2001 as compared to the same period of 2000 due to the introduction of the Game Boy Advance platform. We do not anticipate releasing new titles for the Game Boy Color platform in the future, however we do not anticipate that this will have a material effect on our overall net sales because of the increase in Nintendo Game Boy Advance net sales.

Nintendo 64 Net Sales

We had 2 releases of Nintendo 64 (“N64”) product in 2001 versus four N64 releases in 2000. Net sales decreased by 83% due to the weaker market for N64 product as the industry transitioned to the next generation of hardware. We do not anticipate having new releases of N64 product in the future, however we do not anticipate that this will have a material effect on our overall net sales because of the increase in Nintendo GameCube net sales.

Microsoft Xbox

We released our first 2 Xbox titles in the fourth quarter of 2001. The 2 titles were Dark Summit and MX 2002 featuring Ricky Carmichael.

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PC CD-ROM Net Sales

The significant increase in PC CD-ROM net sales for 2001 as compared to the same period of 2000 is attributed to the worldwide release of Red Faction for the PC, numerous children’s titles including, Rocket Power: Extreme Arcade Games, Bob The Builder: Can We Fix It?, SpongeBob SquarePants: Operation Krabby Patty, Jimmy Neutron: Boy Genius and Rugrats: All Growed Up, as well as sales from Hot Wheels and Matchbox titles released under our license agreement with Mattel. We released 13 PC titles in 2001 whereas we only released 6 PC titles in 2000.

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Sales by Territory

The following table sets forth, for the years ended December 31, 2001 and 2000, our net sales for the North America and international territories:

Net Sales for the Years Ended		December 31,				December 31,				Increase/
(In thousands)		2001				2000				(Decrease)				% Change
North America		$	262,676			$	270,116			$	(7,440	)			(2.8	)%
International			116,316				76,887				39,429				51.3	%
Net Sales		$	378,992			$	347,003			$	31,989				9.2	%

North America Net Sales

The decrease in net sales in North America for the year ended December 31, 2001 as compared to the same period of 2000 was primarily due to:

The industry’s transition to four new hardware platforms, two of which were just released in November of 2001. Many of our key genres, wrestling and children’s, are best suited to the broader demographic which occurs as the hardware platforms reach a larger installed base. Based on the higher installed base of all four hardware platforms in 2002 and our increasing product line, we anticipate our net sales in North America to increase in 2002.

Although the total amount of actual units shipped in 2001 was 24% higher than in 2000, our net sales decreased due to declining pricing on legacy products and no new releases of N64 product which sells at a higher price than other products.

To date, the recent terrorist attacks in the United States have not had a material impact on our financial position or results of operations. The future economic consequences of those attacks are still unknown at this time. We cannot determine if the attacks or any events arising as a result of those attacks will have a material impact on our business in the future.

International Net Sales

The increase in net sales in the international territories for the year ended December 31, 2001 as compared to the same period of 2000 was primarily due to:

	•		Our offices in France and Australia conducting business for the full year as compared to only nine months and three months, respectively, in 2000.
	•		The release of 5 PlayStation 2 titles in 2001 as compared to no titles in 2000.
	•		A 105% increase in net sales of titles for the handheld gaming systems Nintendo Game Boy Color and Nintendo Game Boy Advance.
	•		A 48% increase in PC CD-ROM net sales primarily due to Red Faction for PC CD-ROM.

This increase was offset by a 52% decrease in PlayStation net sales due to the transition to PlayStation 2.

We expect our international net sales to increase at a slower rate in 2002 as compared to 2001 and as compared to our expected 2002 North America growth rate. This is due to the launches of next generation hardware occurring at later dates, resulting in a smaller installed base.

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Costs and Expenses, Interest Income — net, and Income Taxes

Information about our costs and expenses, interest income — net, and income taxes for the years ended December 31, 2001 and 2000 is presented below:

Cost of Sales

Cost of sales as a percentage of net sales remained relatively constant for the year ended December 31, 2001 compared to the same period of 2000. We expect our cost of sales to decrease slightly in 2002 due to a higher percentage of sales from disc based products that carry lower manufacturing costs than cartridge-based products.

License Amortization and Royalties

License amortization and royalties decreased as a percentage of net sales for the year ended December 31, 2001 compared to the same period of 2000 primarily due to sales of Red Faction and Summoner which carries no license amortization and royalties because we own the intellectual property.

Software Development Amortization

Software development amortization decreased as a percentage of net sales for the year ended December 31, 2001 compared to the same period of 2000 primarily due to: