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Is GameStop Stock a Buy?

By Lawrence Rothman, CFA – Jun 16, 2020 at 8:07AM

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The video game retailer has activist investors trying to push for change. Should you hop on the bandwagon?

Like many other retailers, GameStop (GME 8.75%) experienced a rough fiscal first quarter, which ended May 2. It's not surprising since the coronavirus caused the company to block physical access to its more than 3,500 U.S. stores, with 65% providing limited pick-up services.

There are about 1,800 international locations, and the virus also affected operations in Canada, Europe, and New Zealand. Through the last half of the quarter, GameStop had approximately 90% of its stores closed to customer traffic.

Global same-store sales, excluding locations closed as a result of the outbreak, fell 17%. But the company has had underlying issues for some time. The stock price, which has lost more than 90% of its value since Nov. 2013, reflects these challenges.

There are two major game console launches scheduled for late 2020 that should boost GameStop's fiscal 2021 sales. But will this be enough to turn around the company's fortunes?

An individual with a virtual reality headset on.

Image source: Getty images.

Losing to digital

GameStop has been contending with people increasingly downloading games rather than buying physical copies. Management admits this -- and the company is pushing downloadable games and prepaid subscription cards -- but it still faces a lot of competition.

So far, this isn't improving sales. For fiscal 2018 and 2019, comps fell 0.3% and 19.4%, respectively. The company hopes that its top line will get a substantial boost when Sony and Microsoft release their latest game consoles, which both have slated for the end of this year.

However, GameStop's results likely won't get the multiyear benefit they have in the past from a new generation of video game hardware. Recently, Sony announced that its new PlayStation will have two versions, one with a disc drive and one with an all-digital system. While Microsoft hasn't made an announcement, its existing Xbox already has an all-digital model. Since that allows you to download games right to your home, this will likely hurt GameStop's ensuing software sales.

Aside from the growth of downloadable games on the PlayStation and Xbox, there are a variety of places people can get digital titles like Steam or Epic Games. Even Sony and Microsoft have their own streaming services that allow you to download games directly to a console or other device.

Surely the new consoles will likely lift GameStop's sales in the short term, but with digital delivery taking over, software sales will remain under pressure for the brick-and-mortar retailer.

A revised strategy

A year ago, management launched a new strategy: GameStop Reboot. There are four parts to it: Optimize the core business (including cost-cutting and inventory management), create a social and cultural hub for gaming, build a digital ecosystem (i.e., omnichannel), and transform vendor partnerships.

In the first quarter, management noted progress on costs by slashing salaries, which helped drive down adjusted selling, general, and administrative (SG&A) expenses by 16% year over year to $381.2 million. This follows last year, when GameStop cut adjusted SG&A costs by nearly 7% to $1.8 billion.

Slashing expenses is easy. The real question is: Will this lead to higher sales that drive improved profitability? I am skeptical. Management also noted that stores were able to offer online ordering with curbside pickup, and e-commerce sales grew by more than 500% during the quarter. But this basic service, provided during a major pandemic, is not the same as a comprehensive digital fulfillment strategy.

Are activists too late?

With worsening results and a dramatic drop in its share price, GameStop has drawn the ire of activist investors. Hestia Capital Partners and Permit Capital Enterprise Fund, which together own 7.2% of the company, are fighting to put two of their own nominees on the company's board of directors.

It is difficult to predict how this will turn out, but as an investor, all you can do is evaluate the current situation. The ever-increasing number of headwinds for this retailer makes it clear investors should find another place to play.

Teresa Kersten, an employee of LinkedIn, a Microsoft subsidiary, is a member of The Motley Fool’s board of directors. Lawrence Rothman, CFA has no position in any of the stocks mentioned. The Motley Fool owns shares of and recommends Microsoft and recommends the following options: long January 2021 $85 calls on Microsoft and short January 2021 $115 calls on Microsoft. The Motley Fool has a disclosure policy.

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Stocks Mentioned

GameStop Corp. Stock Quote
GameStop Corp.
GME
$27.60 (8.75%) $2.22
Microsoft Corporation Stock Quote
Microsoft Corporation
MSFT
$248.88 (3.38%) $8.14
Sony Corporation Stock Quote
Sony Corporation
SONY
$68.24 (3.14%) $2.08

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