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GameStop: On Its Way To Liquidation

In the last five years, GameStop’s (GME) stock lost more than 90% of its value and the company is currently in the middle of reorganizing itself. While the upcoming release of the next generation of consoles later this year might boost GameStop’s sales, it’s unlikely that the company’s stock will be able to pick up momentum and appreciate from the current lows. When six years ago the consoles from the current generation were released, GameStop was able to slightly increase its earnings, but later all the gains were evaporated. As the gaming industry is experiencing the greatest sales growth in a decade, GameStop’s customer base continues to shrink and the company is unable to create value. The shift to digital gaming in the last few years stripped GameStop from its competitive advantages and now the retailer is quickly trying to redefine its business model to stay relevant.

The recent note exchange helped GameStop to win time, but there are no growth prospects that could justify buying the company’s shares for the long term. While GameStop still has a valuable real estate, which will most likely be liquidated, it’s highly unlikely that its overall business will recover in the long term. Since the publication of our initial bearish article on GameStop, the company’s stock lost more than 70% of its value and we don’t see any turnaround happening anytime soon. For that reason, it’s better to avoid GameStop’s stock due to its highly speculative nature.


Lost Decade

GameStop is a struggling retailer that failed to adapt to the changing market environment. The shift to digital gaming in the last decade put the company on the brink of collapse. In 2018, more than 80% of games in the United States were sold digitally. In its latest earnings call, one of the industry’s biggest gaming publishers Take-Two ( TTWO) said that digital sales are expected to represent 86% of its total sales. At the same time, 68% of its games (excluding in-game content, virtual currencies, DLCs, etc.) will also be sold online during the period, an increase from 55% a year ago.

At the same time, a great number of gaming developers began to release a premium in-game content to generate recurrent revenue from titles that were released a while ago but still are highly monetizable. As a result, the number of gaming releases decreased, while the content that is delivered digitally continues to increase annually. The recent announcement of a diskless PlayStation 5, which will likely be cheaper in comparison to an original PlayStation 5, signals that digital gaming will continue to expand, as gamers continue to ditch physical disks. Considering how poorly GameStop performed when digital gaming was not as popular a few years ago in comparison to today, it’s highly unlikely that the retailer will be able to execute a turnaround in the current environment.

The shift to digital also hurt GameStop's pre-owned business. The concept of reselling games is not beneficial to publishers, as they no longer make any profits after the initial sale of the game is completed. To shrink the used games market and to get the lost revenue back, the biggest publishers in recent years have launched their own, highly successful, subscription-based services. For a monthly fee, services like EA Access, UPlay+, Xbox Game Pass, and others give gamers access to a wide library of games that could be played at any time. This way, the publishers ensure that players get a chance to play different titles at once for a fixed price and not go to a third party, such as GameStop, to purchase games that were once already bought, for a lower than retail price.

At the same time, COVID-19 continues to be a major risk to GameStop. As the second wave is on its way, we might see another round of large-scale lockdowns that will once again disrupt GameStop’s operations. If GameStop shops will be closed during the holiday season, then the company will fail to even slightly benefit from the upcoming release of new consoles and its collapse will be imminent.

Little Value Left

The company’s latest earnings report showed that in the first three months of the year when the gaming industry started to pick up momentum, GameStop’s revenue declined by 34% Y/Y to $1.02 billion. Same-store sales were down 17% for the period and the company reported a GAAP loss of -$2.57 per share. While GameStop expects to close up to 300 stores this year to cut down its expenses, it will not help the company recover from the current crisis.

The only valuable thing that GameStop has is its real estate. By having more than 1 million square feet of real estate, GameStop could slowly liquidate its assets to meet its obligations and extend its lifetime. Recently, the company sold its corporate jet and is looking to sell its more than 600,000 square feet headquarters in Grapevine, Texas, which is located close to Dallas Fort Worth Airport. By having a declining business, it seems that the only thing that the company could do to unlock value is to sell its remaining assets.

To win some time and get more value for its real estate assets, GameStop recently made a note exchange offer and agreed with the majority of its debtholders to exchange their March 2021 notes with a yield of 6.75% for March 2023 notes with a yield of 10%. While the exchange will give GameStop some financial flexibility, offering notes for only two years with a double-digit interest rate in the low interest rate environment doesn’t inspire confidence in the management team and its ability to recover the business.

At the same time, it’s impossible to find out GameStop’s fair value and create a discounted cash flow model, as the business is not stable enough. Its revenues are impossible to predict since the company’s performance is not correlated with the performance of the gaming industry. Thereby, creating any model would be meaningless as the range of potential outcomes would be too big and yield useless results.

When compared to other companies from the gaming field, GameStop has the worst valuation multiples and margins.


Even in the retail space, GameStop has one of the worst metrics and it doesn’t generate any profits. So if an investor wants to add a gaming or a retail name to his or her portfolio, then there are much better stocks out there with a more attractive risk/reward ratio.


Conclusion

With a negative P/E and EV/EBITDA ratios and no signs of growth, GameStop is a company with no future. It was unable to benefit from the growth of the gaming industry in the last decade and is unlikely to do so this time. Its stock wasn’t able to grow along with other gaming names in the last few months when the gaming industry experienced one of its biggest growth in sales in a decade. Without any competitive advantages, it’s only a matter of time before the gaming retailer goes out of business.

We don’t see how the company will benefit from the release of new consoles in the long term, since it failed to benefit from the launch of the previous generation of consoles a few years ago. At the same time, backward compatibility is not going to be a game-changer since gamers will be able to play legacy titles via subscription services at a much cheaper rate in comparison to buying physical disks for a higher price. The only thing of value that GameStop has is its real estate, which after being sold will leave the company with nothing worth of value anymore. As analysts expect the company to be unprofitable this year, it’s better to avoid its stock and look for other, better opportunities that the market offers.

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