GameStop Surviving the Internet Wars for Now
Nihar is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.
The internet has been really hard on retailers. I wonder how many of them have fallen due to Amazon. Blockbuster felt the pain because of Netflix. The internet is changing much about the way people do business. However, not all is lost for stores. There are a few retailers that manage to survive. I think a few of them can succeed, or at least become lucrative targets for Internet based companies that want a physical presence.
Niche retailers are probably best suited to a continued existence along with certain giant stores that cannot easily shift to a fully online existence. I would not underestimate brick and mortar stores. Most are not long for this world, but there are a few that will stick around for a while. However, the winds of change are hitting these as well and I will note future risks.
Tapping into the Rabid Mass of Gamers
GameStop (NYSE: GME) might seem like an interesting choice. There is almost nothing it has that Amazon cannot sell. The best profits come from used games of which the PC segment is rapidly disappearing due to direct download. The introduction of online gaming profiles that tie to specific console discs granting special benefits is also making it unattractive to buy used gaming discs. Another example is the free DLC that is given to new discs, but require a small payment for used discs. Publishers dislike used sales, but GameStop loves them. Unfortunately, publishers hold all the cards and if they decide to make the used market unappealing, then there is not much for GameStop to do.
All that sounds very negative for a long article, but the risks of betting against the Internet are massive. GameStop has a website, but it also has stores all over the place. I still think there are a few reasons to be positive on GameStop. One of the things that makes me like GameStop is that going to the store is an extremely useful endeavor. I know anyone might argue that what I am about to say applies to Best Buy, but it is quite different.
Going to a GameStop store allows you to talk with the staff, who happen to be extremely knowledgeable about games. Gamers are Internet savvy so for them the benefit is less. However, for people trying to give gifts to gamers they might be lost in the numerous choices. A simple Internet search is going to tell you what the current most popular games are. Even the best game is not the best for everybody. It really depends on what you like. The staff at the stores I have been to are really good at suggesting the appropriate games. Obviously, someone who knows nothing about the person they are buying the gift for walk out with the most hyped game out there, but if they know a few details about the person they can come out with a good game in the right genre. A Total War lover would not like a Halo game as much as a Europa Universalis game. From my experience, the staff at these stores are hardcore, eclectic gamers.
If you want to buy a camera there are probably tons of reviews talking about the most common models currently available that go over all the tech aspects. I find that reviews of games are only relevant to someone plugged into gaming. No one in their right mind would buy me a World of WarCraft expansion, but if you just went online when those games came out there was only the highest praise. I hate MMORPGs no matter how good they are. That is the benefit of a specialty retailer in video games. The best choice of camera involves very little personal choice, but choosing a game is all about personal taste. Having a knowledgeable staff keeps people coming back, though not enough to base a business around. I have not been to the store in over a year, but I enjoy it whenever I do.
The other positive sign, that is not standard investment analysis fare, is the psychology of gamers. I included rabid masses in the section heading. The reason is that in this Internet age where you can pre-order online or download the game on the day of release from Steam or other methods, gamers still flock to the stores at unholy hours to grab their copy. They actually pre-order the game then go early to pick it up. The pre-order just guarantees them a copy. Too bad the margins on those are not as good as used games.
It is also too late to start charging for pre-orders instead of treating them like deposits. GameStop can still get people to come into the stores. It is due to the nature of gamers that they can count on this, but that advantage is dwindling fast. If consoles ever become direct download only, then no one will go to the stores. Right now they can use the popularity to explore new business opportunities to generate revenue, such as these opportunities.
The company is not in excessively dire straits. For example, it has no debt. The profit margin is unacceptable, and it needs to do a better job. It might be wise to beat the corporate version of a tactical retreat and simply close stores that do not do enough business. Let Wal-Mart and Target sell games to the sparsely populated areas.
GameStop as a specialty retailer can do with a smaller geographic footprint. I think there are 3 near me in a 20 mile radius, and that might be too many. However, they are all in dense population areas and probably grab all the business in the area. About 40 miles there is a large and dense population area that has many stores that probably overlap. These are remnants of when there used to be a place called EBgames. All those stores are not GameStops and from what I can see none of the stores have really closed. I think one of them is gone, but that is far too few. I am sure management is already looking into this.
GameStop still has a large dividend at 4.40%, but considering the falling earnings I think this will be cut eventually. That will do some damage to the stock. Management might avoid that entirely, but I would be aware of the risk. Cutting the dividend is a bad sign as the market perceives it, even if it allows it to keep cash in the company for expansion or other endeavors.
GameStop really does not have directed competition. There is no Pepsi to GameStop's Coke, but any internet retailer would be a danger to GameStop. Keeping my focus on brick and mortar shops, Best Buy (NYSE: BBY) is probably a very significant competitor. I would include Walmart, but that is an everything competitor, while Best Buy is at least focused on electronics. Best Buy is already in things that GameStop could expand into. Gaming is not just about consoles, it is about hardware. GameStop could sell the perfect gaming TVs or monitors, which Best Buy is already in. Best Buy has fallen on some hard times, and its earnings highlight that fact. Those are some very negative numbers. Looking at the 3 year returns, I would just avoid Best Buy until it came to a bottom and really changed the way it does business. With negative revenue growth and a -91% earnings growth, the future seems troubled for Best Buy. That is why I like GameStop as a specialty retailer. That is also why I am loathe to find other retailers that were hit hard by the internet. Walmart carries a ton of items and most I do not think will be taken over by the internet. Best Buy functions in a segment where there has to be many different options. Carrying the product that has the most utility might be okay for kitchen appliances, but for things like cameras it is all about the mix the customer wants when they walk in.
RadioShack Corp. (NYSE: RSH) is another, and I suppose it is more of a specialty retailer than Best Buy, but I include it last for a few reasons. I have not personally been inside a RadioShack store for over a decade. I do not think having a smaller store makes you a specialty retailer. I do know that over the years RadioShack has moved from being the place to get obscure electrical components for electrical or mechanical engineers with pet projects, to a mini-version of Best Buy. There was a RadioShack in my old grocery complex and all the ads posted on the front window of the store talked about cameras or other gadgets. Do not quote me, but I suspect it is just a showroom so people can decide what they want to order from Amazon. In the 90s I remember that RadioShack was the place to go for weird batteries, but now there are at least 3 other places I could go that carries the same.
I have no idea how RadioShack pays its monsterous dividend. With its high debt and cash position eroding, I do not know how long they will continue paying the dividend. At least it is trading below book value, allowing one to try and make an argument that it is undervalued. I think it is undervalued for a reason. Its stores are just not as valuable as they used to be, and I worry about its future earnings. I admit to not knowing as much about its inner workings as the other two companies, so I might be wrong. It has been so long since I have stepped foot in a RadioShack, back when some devices actually needed to use D batteries.
Conclusion
I want the next conference call as night-time reading material to get a sense of where the company is headed. Maybe then I would consider a position, though I am positive on the company I want more before I commit my capital. Perhaps, I would use cash-secured puts to take a position if the market punishes the stock. There is much more to consider before taking a position. On one final note, I think the idea in this article is brilliant. The article talks about how Amazon might do well to buy GameStop as its brick and mortar entry, however that might be dreaming too large for a GameStop shareholder.
TheArchivist has no positions in the stocks mentioned above. The Motley Fool owns shares of Best Buy, GameStop, and RadioShack and is short RadioShack. 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.If you have questions about this post or the Fool’s blog network, click here for information.
