The Big Obstacle GameStop Must Overcome

Tomorrow, GameStop (NYSE: GME  ) will release its latest quarterly results. The key to making smart investment decisions on stocks reporting earnings is to anticipate how they'll do before they announce results, leaving you fully prepared to respond quickly to whatever inevitable surprises arise. That way, you'll be less likely to make an uninformed, knee-jerk reaction to news that turns out to be exactly the wrong move.

GameStop has had its fortunes tied to the video game industry for a long time and recently, video gaming has languished under pressure from cheaper online and social games. But investors hope that a new renaissance in console gaming will revive GameStop's retail business as well. Let's take an early look at what's been happening with GameStop over the past quarter and what we're likely to see in its quarterly report.

Stats on GameStop

Analyst EPS Estimate

$0.40

Change From Year-Ago EPS

(26%)

Revenue Estimate

$1.84 billion

Change From Year-Ago Revenue

(8%)

Earnings Beats in Past 4 Quarters

3

Source: Yahoo! Finance.

Will new games save GameStop's business?
Lately, analysts have gotten decidedly more pessimistic about GameStop's prospects. They've marked down their estimates for the last quarter by more than 25% and cut their full-year earnings projections by more than $0.30 per share. Yet the stock has performed very well, climbing more than 45% since mid-February.

GameStop's core business has involved buying used games and consoles and then reselling them at a substantial markup. Yet increasingly, competitors have sought to challenge GameStop's once-dominant position in the industry. Best Buy (NYSE: BBY  ) in particular has fought hard to establish a foothold in pre-owned sales, and recently, it has matched GameStop in a promotional price war that could cut the lucrative margins that GameStop has traditionally gotten from the space.

Yet the bigger threat to GameStop comes from the developer front, where companies have taken steps to prevent resale of previously owned games in order to boost direct sales. With direct digital sales, Electronic Arts (NASDAQ: EA  ) and Activision Blizzard (NASDAQ: ATVI  ) are poised to cut GameStop and other middlemen out of the loop, reaping more revenue for themselves and avoiding the lost revenue that used-game sales represent. Just yesterday, GameStop's stock plunged as Microsoft's (NASDAQ: MSFT  ) new Xbox One revealed features that involve registering games through Microsoft rather than via third-party retailers.

Interestingly, though, GameStop actually has some promise in other areas of its business that most investors ignore. Mobile device trade-in and resale represents a high-margin segment, while digital sales grew by 71% in the most recent quarter. Toys associated with games also account for a substantial amount of revenue, and as game makers and other content producers seek to monetize their content through toys, GameStop could see that part of its business grow as well.

In GameStop's quarterly report, watch closely to see how the company responds to Microsoft's Xbox One announcement. If the retailer can get past used-game restrictions to find ways to capitalize on the new console, then GameStop's future might not be as bleak as bearish investors believe. Otherwise, though, GameStop will have to turn to other revenue sources for its survival.

While Activision and Microsoft have been taking the headlines when it comes to console gaming, investors following the gaming sector would do well to also keep tabs on Electronic Arts. We can help. The Motley Fool's special report breaks down the risks and opportunities facing the company to help you decide if EA is right for your portfolio. Click here to get your copy now.

Click here to add GameStop to My Watchlist, which can find all of our Foolish analysis on it and all your other stocks.


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  • Report this Comment On May 23, 2013, at 1:34 AM, mukyou wrote:

    One problem most of the writers like yourself seem to do, is not really know what you are talking about. This industry and the supporting industry are organic in nature. Always changing and always in a stat of competitiveness. But it for some reason writers like yourself seem to keep getting posted over and over. Kinda like how CNN analyst said the that the Nintendo 3DS would be a total failure, yada yada, but now is out pacing the DS in sales which is insane. Gamestop will go through highs and lows, to think that games are a product of exponential growth is dumb. Anyone who thinks that way of any industry is dumb. Also if you want to see just how strongly people feel about the use game market, look at the XBox One reveal and the back lash it is suffering from just the idea that used games will be stuck behind a pay wall. Wii U and Playstation 4 are looking better and better to consumers. The ball is now in Sony's court. If Sony fumbles here, you will see such a recoil, and influx of consumers heading to Wii U, that it will have a long standing effect in the market.

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