A series of realities have rained down on videogame retailer GameStop (GME) days before parents are supposed to be out buying the latest Halo for their lazy children.
Shares of the retailer, which were oddly outperforming the broader market for most of the year, plunged yesterday following disappointing quarterly results. Management were delusional and opted to keep their full year earnings guidance (which won't be achieved), despite the clear fundamental problems that are beginning to take hold in the business and broader gaming industry.
The earnings call had all the signs of a Wall Street community poised to turn on a group of well-paid executives. I think the stock's nosedive is the start of a long-term decline, fueled by subpar performance and an executive team that is slow to aggressively shutter stores and tweak an out of control strategic plan to diversify.
Here are three reasons why GameStop's misery is only just beginning:
- The executive team has taken an ill-advised growth path. Led by J. Paul Raines since 2010, GameStop has navigated into the pre-paid phone business, opening Cricket Wireless stores in a deal with AT&T (T). Furthermore, the company has been opening stores called Simply Mac that are like a bootleg Apple (AAPL) store. (Pardon me for a second, because as I write this I can't stop laughing.) Selling mobile phones today is a horrible business to be in; just ask Best Buy (BBY), which is having trouble getting folks to sign up for warranty plans and to stop buying the latest phones from Apple stores. Moreover, smartphones themselves are deflationary -- the pricing competition is increasing, which likely will hinder the return on GameStop's Cricket Wireless stores (which are pretty big -- one is opening up by my house). As for Simply Mac, are you kidding here guys? Why wouldn't someone simply head to the Apple store for the latest and greatest? If one thinks they are going to be competing successfully with Apple's retail ambitions and current network, best put down the grass. Simply Mac is not offering big discounts on the Apple Watch or other new products to stick out vs. Apple stores and create buzz among consumers. The reality here is that executives are grasping at straws to facilitate growth beyond the dying videogame industry. Wireless phones and being a second-class citizen to Apple stores (and those in Best Buy featuring new fixtures and improved service component...) is a horrible strategy. And ultimately, it will come at the expense of shareholders.
- Pre-owned game business is not what it used to be. GameStop continues to take great pride in being the largest seller of used videogames. It was once an enviable position to be in...when the internet was still incubating and game cartridges and compact discs ruled a child's room. Now, the pre-owned business I think is an albatross for GameStop; it's a model of yesteryear. The company has too much capital tied up into old videogames that nobody is buying because kids are playing the Kardashian or Candy Crush games on their smartphones, which weren't purchased from a Cricket Wireless or Simply Mac. The massive inventory investment is a function of GameStop's model -- you can trade in a game and get credit towards a new game. Keep in mind that new games aren't holding their premium launch prices as long as in the past, which creates one big mess for GameStop. In a perfect world, GameStop has an epic one-month liquidation sale of used titles older than a year. It then refines its trade-in policy to only games released within the past year. The money from the massive liquidation sale then gets plowed back into aggressively closing stores, seeing as the store base has ballooned to over 6,000 globally. Maybe I am smoking grass, because this is unlikely to happen, which means continued elevated risk to investors who decide to stay long GameStop.
- Hit-driven games business is slowing, killing GameStop. Videogame publishers such as Electronic Arts (EA), Activision Blizzard (ATVI) and Take-Two Interactive (TTWO) are concentrating their efforts on a few hit titles a year. In the case of Activision Blizzard, its acquisition of Candy Crush Saga maker King Digital (KING) is a bet that the next major title will be a digital download, and have nothing to do with GameStop stores or webstore. Back in the day when GameStop was thriving, it was able to benefit from the publishers churning out a ton of titles, most low quality, and consumers visiting stores to peruse the racks and buy low-quality titles on the cheap (driving volume). Unfortunately for GameStop, that is no longer happening, leaving it with stores that are stocked with pre-owned games nobody wants and a few key titles which, according to Monday's release, are not being embraced.
Bottom line is that GameStop needs one monster title from a publisher each quarter to generate the type of results that justify its current valuation. The problem is that new releases thought to be hits, such as Halo and Assassin's Creed, are not being embraced like in the past, because kids are having their attention stolen by other things, such as digital gaming, texting, Snapchatting, or God knows what else that my old self is unaware of these days.