Will These Gaming Stocks Come Roaring Back This Holiday Season?

Bill is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.

Investors are dumping companies involved in console gaming as they lose market share to mobile device games and social games. Have any good companies been thrown out with the bad, or are all these stocks garbage?

GameStop Closing Shops

Including the impairment charge, GameStop’s (NYSE: GME) net loss for the third quarter was $624.3 million, compared to net earnings of $53.9 million in the same quarter of 2011. Diluted loss per share was $5.08, compared to diluted earnings per share of $0.39 in the same quarter of 2011.

GameStop is reacting to this downward trend. It revealed that it is closing 200 of its 6,650 shops worldwide after releasing its third quarter earning results. The better than expected numbers eased investor concerns on the close out issue. Industry competitors diverted to more profitable mobile and online games from its core console based games. Cheaper online games and tablets compete heavily against traditional video games. Thus, it pressured the video game retailer’s bottom line. Investors, however, are more preoccupied with the launching of Nintendo’s Wii U. Analysts perceive the losses came from GameStop’s underperforming stores located in Australia and Canada. Offshore operations comprised 32% of the company’s 2011 total revenue.

Value investors should commend the actions of GameStop’s management. Instead of living in denial, the company’s leaders are pruning unprofitable store locations and protecting owner equity. Instead of throwing good money after bad, the Board of Directors approved a $500 million share buy-back to take over its current $242 million share repurchase plan. GameStop had made a share repurchase of $76.8 million during the same quarter. Non-value investors might interpret this return of capital with disdain. They are misguided since this is a consolidation story, not a growth story.

Expanded PS3

It’s not all bad news for the console gaming industry. Sony (NYSE: SNE), the biggest Japanese exporter of consumer electronics, expects annual holiday sales to match those of last year. The head of Sony’s game business segment, Andrew House, said sales will be “somewhere close to the range of last year.” Mr. House noted that sales are meeting expectations for the recently-launched version of the PlayStation 3. These new PS3 consoles feature more memory while being smaller and weighing less. These new PS3 consoles will sell at a $249 price tag in North America.

The release of the new PS3 comes during a regime change at Sony. Kazu Hirai became the CEO in April this year and has pushed for change in the loss-prone company. He announced a sweeping plan to cut nearly 10,000 jobs and is looking over the gaming unit specifically for cuts. Sony is making several attempts to get back to turning a profit after facing 4 consecutive losses it has suffered in the global economic slowdown. The company also faced losses due to customer migration towards Samsung (SSNLF) and Apple (AAPL) products).

The Sony spokesperson said that last year during the holiday season the company sold more than 6.5 million consoles, including portable and home models.  Mr. House said that the sales from the online portal are increasing. He also noted that Sony is launching PlayStation Mobile services on which can be downloaded by buyers on their smartphones along with tablets.

The Wii U Launch
Nintendo’s latest Wii U videogame console is generating buzz. Pre-orders for the console started gaining traction as retailers declared that they were “sold out.” Nintendo’s shortage of consoles could mean that the Wii U will be a huge hit or it might mask a tepid demand. Without an excess inventory here is no way to know what sales could have been made.

After Nintendo announced the pricing and availability, orders were filled in just few days. Sold-out retailers included Kmart (SHLD), Target (TGT), and Best Buy (NYSE: BBY). Wal-Mart (WMT), too, was not able to cope with the pre-orders. Worse yet, the Wii U had a stock-out at Amazon (AMZN).


Consider valuations of the following stocks with significant stakes in console gaming:

<table> <tbody> <tr> <td> <p><strong>Ticker</strong></p> </td> <td> <p><strong>Company</strong></p> </td> <td> <p><strong>Industry</strong></p> </td> <td> <p><strong>Country</strong></p> </td> <td> <p><strong>P/E</strong></p> </td> <td> <p><strong>P/S</strong></p> </td> <td> <p><strong>P/B</strong></p> </td> <td> <p><strong>P/FCF</strong></p> </td> </tr> <tr> <td> <p><strong><span class="ticker" data-id="202876">(NASDAQ: <a href="http://caps.fool.com/Ticker/ATVI.aspx">ATVI</a>)</span></strong></p> </td> <td> <p><strong>Activision Blizzard</strong></p> </td> <td> <p><strong>Multimedia Software</strong></p> </td> <td> <p><strong>USA</strong></p> </td> <td> <p><strong>14.17</strong></p> </td> <td> <p><strong>2.74</strong></p> </td> <td> <p><strong>1.13</strong></p> </td> <td> <p><strong>10.71</strong></p> </td> </tr> <tr> <td> <p>BBY</p> </td> <td> <p>Best Buy</p> </td> <td> <p>Electronics Stores</p> </td> <td> <p>USA</p> </td> <td> <p>NA</p> </td> <td> <p>0.09</p> </td> <td> <p>1.32</p> </td> <td> <p>4.86</p> </td> </tr> <tr> <td> <p>EA</p> </td> <td> <p>Electronic Arts</p> </td> <td> <p>Multimedia Software</p> </td> <td> <p>USA</p> </td> <td> <p>1305</p> </td> <td> <p>0.97</p> </td> <td> <p>1.89</p> </td> <td> <p>11.51</p> </td> </tr> <tr> <td> <p>GME</p> </td> <td> <p>GameStop</p> </td> <td> <p>Electronics Stores</p> </td> <td> <p>USA</p> </td> <td> <p>10.87</p> </td> <td> <p>0.35</p> </td> <td> <p>1.14</p> </td> <td> <p>6.24</p> </td> </tr> <tr> <td> <p><strong><span class="ticker" data-id="204183">(NYSE: <a href="http://caps.fool.com/Ticker/KNM.aspx">KNM</a>)</span></strong></p> </td> <td> <p><strong>Konami</strong></p> </td> <td> <p><strong>Multimedia Software</strong></p> </td> <td> <p><strong>Japan</strong></p> </td> <td> <p><strong>14.01</strong></p> </td> <td> <p><strong>1.08</strong></p> </td> <td> <p><strong>1.21</strong></p> </td> <td> <p><strong>17.65</strong></p> </td> </tr> <tr> <td> <p>SNE</p> </td> <td> <p>Sony</p> </td> <td> <p>Electronic Equipment</p> </td> <td> <p>Japan</p> </td> <td> <p>NA</p> </td> <td> <p>0.12</p> </td> <td> <p>0.44</p> </td> <td> <p>17.98</p> </td> </tr> </tbody> </table>

Notice how many of these out of favor stocks are very cheap. Higher valuations can be found in those hotter areas like social media and mobile device gaming.

Fortunately for value-oriented investors, these stocks are not as glamorous and are trading at low valuations. Sony trades at a discount to its book value. The price-to-book values for all these stocks are below the average for the S&P 500 index companies, even though some have significant off-balance sheet intellectual property. Off-balance sheet intellectual property can include brands, patented technology, or fictional characters.

With the exceptions of Konami and Sony, all of these companies are also trading at attractive price-to-free cash flow multiples. In addition, the price to sales ratio is very low for all companies except Activision Blizzard.

Analysts and the market could be surprised by the strength of console gaming sales in the holiday season. There is a worldwide following of gamers who are literally addicted to console games. This is a captive market. Also, it is hard to stuff a stocking with a downloaded app. Old-school console games may yet have some life left.


BillEdson11 has no positions in the stocks mentioned above. The Motley Fool owns shares of Activision Blizzard, Best Buy, and GameStop and is short Sony (ADR) and has the following options: long JAN 2013 $22.00 calls on Sony (ADR). Motley Fool newsletter services recommend Activision Blizzard, Best Buy, and GameStop. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. Is this post wrong? Click here. Think you can do better? Join us and write your own!

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