It May Be "Game Over" For GameStop Soon

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It may not be long before GameStop (GME) becomes more Stop than Game.

The video game retailer is coming off another disappointing quarter. Sales plunged 11% to $1.55 billion, well short of the $1.61 billion that Wall Street was expecting. Same-store sales fell by a problematic 9.3%.

It gets worse.

Even the thrifty die-hard gamers are now staying away.

I'll Give You $7 for That Old Super Mario Game

Video game sales have been sluggish for three years, but GameStop has survived on the strength of its resale business. The chain's thousands of small-box stores will gladly take in your pre-owned games and gear in exchange for store credit or a little bit of cash.

GameStop then refurbishes the consoles, cleans the discs and cartridges, and sells them as discounted pre-owned items.

Nine Great American Companies That Will Never Recover
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It May Be "Game Over" For GameStop Soon

Today's Bank of America (BAC) was created through a series of mega-mergers and acquisitions engineered by CEO Ken Lewis, including the purchases of FleetBoston in 2003 and credit card giant MBNA in 2005. By 2007, he had succeeded in making Bank of America the largest bank in the U.S. by deposits. But then Lewis overreached. As the financial system was heading toward near-collapse in 2008, Bank of America bought crippled mortgage bank Countrywide Financial in January and deeply troubled investment bank Merrill Lynch in September.

After that, Bank of America's financial troubles multiplied so rapidly that it was forced to take much more TARP money than most other large U.S. banks: $45 billion.

Lewis was replaced by Brian Moynihan, but Moynihan's tenure has been even worse. JPMorgan Chase & Co. (JPM) passed BofA to become the nation's largest bank. Crippling losses, primarily from Countrywide legacy loans, led it to announce it would cut more than 30,000 jobs. In late 2011, a $50 billion class action suit was filed in over the Merrill Lynch acquisition.

Bank of America was also the target of several mortgage fraud suits, and entered into a settlement which cost it and four other large U.S. banks a combined $25 billion. BofA still faces legal and balance sheet problems, which may force it to raise tens of billions of dollars. And finally, its exposure to the weak U.S. real estate market is unparalleled among banks. The overall result is a too-big-to-fail bank that is only limping along.

By 24/7 Wall St.

You may be surprised to see Zynga (ZNGA), the premier social gaming company, on our list. Its revenue rose from $19.4 million in 2008 to $1.14 billion last year. But Zynga spent plenty of money to reach the apex of its industry, and last year lost $404 million. Investors were drawn to the company because it had been effectively piggy-backing games onto the Facebook platform, which currently has nearly 1 billion members.

The success of the model appeared astonishing. In its last reported quarter, Zynga says it had 192 million monthly unique users, up 27% from the same quarter a year before. But Zynga lost $23 million last quarter on revenue of $332 million. In the same quarter a year ago, Zynga made $1 million on revenue of $279 million.

Zynga's growth rate is no longer impressive, and the problems it faces apparently will worsen soon. The company recently lowered its outlook to reflect delays in launching new games and a faster decline in the use of existing Web games.

But Zynga's real problems are more complex - and more permanent -- than delays and declining use. The game market is becoming more fragmented by the day, and as the total number of virtual games has grown, the cost for Zynga to maintain its lead has become almost prohibitive.

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Dell (DELL), along with Hewlett-Packard (HPQ), Compaq, and Gateway, was one of the companies that capitalized on the creation of the generic IBM PC platform. But the environment in which it grew rapidly by selling inexpensive PCs has changed radically.

First, Dell's computer sales business was damaged by poor management decisions and the rise of Asian manufacturers, which took significant market share from the company. Now, it's being hammered by the smartphone and tablet PC sectors.

All PC makers -- Asian and American -- face substantial pricing challenges today. And as computing has moved quickly to mobile devices, demand for computers has fallen. Dell didn't adapt, didn't diversify the way IBM did, and its reliance on PC sales has left it heading toward irrelevance.

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The New York Times Co. (NYT) has long been the premier daily newspaper company in the U.S., but it has been shrinking rapidly. Ten years ago, it made $300 million on revenue of $3.1 billion. Last year, it lost $40 million on revenue of $2.3 billion.

The New York Times' key failure was that it didn't move online fast enough to compensate for the rapid erosion of print advertising -- tardiness that allowed it to be challenged on the Web by properties like The Huffington Post, Google News, MSN, AOL and Yahoo.

Right now, its market cap is $1.2 billion against its revenue of $2.3 billion in 2011. Compare that to low-brow content aggregator Demand Media, which has a market capitalization of $865 million against 2011 revenue of $325 million. Demand lost $13 million last year. The reason the market values of the two companies are so close? The Times still relies on the dying print business for the lion's share of its revenue, and it's in no finiancial position to make a more aggressive move to the Internet or buy large online properties.

The New York Times' uniqueness among American newspapers is the quality of its editorial content, and it has for the most part retained its large editorial staff. (It did lay off 100 people in 2009, which was about 8% of the newsroom). But The Times has not been able to show significant top-line growth, even with its intensive digital subscription efforts. Quite simply, print is in too much of a shambles for the company to shore itself up in the digital world.

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The cause of Barnes & Noble's (BKS) downfall can be described in one word: Amazon. In 2002, Barnes & Noble made $109 million on sales of $4.9 billion. That same year, Amazon lost $149 million on revenue of $3.9 billion. Fast forward to 2011, when Amazon's revenue reached $48.1 billion and it earned $631 million, while Barnes & Noble lost $69 million on $7.1 billion. Amazon may have expanded into other product lines, but at its heart it is still the world's largest bookstore, and the Kindle Fire is its bestselling item.

Barnes & Noble's legacy business is huge and expensive. As of its April proxy filing, the company operated 1,338 bookstores in 50 states, including 647 bookstores on college campuses -- with all the overhead those entail.

In its last fiscal year, Barnes & Noble had retail sales of just $4.86 billion. That part of the company's business shrank by 2%. Its Nook segment, which encompasses the digital business, had revenue of only $933 million. Digital sales rose 34% over the previous year, but remain a modest portion of sales. And Barnes & Noble's digital division is vulnerable. Its Nook accounts for only 27% of U.S. market share, compared to a 60% share for the Kindle.

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Sprint (S) finally posted some reasonably good results recently. However, these could not mask the fact that the No. 3 wireless carrier is too small to ever really compete with AT&T (T) and Verizon Wireless.

Sprint's $35 billion Nextel purchase in 2004 can be seen in retrospect as a key blunder. Their networks ran on different platforms, and integration issues drove customers away from the combined company. Sprint made the MSN "Customer Service Hall of Shame" several times, most recently in 2010. Its customer service has improved significantly since then, but the damage had been done.

Sprint's revenue has fallen from $41.1 billion in 2007 to $33.7 billion last year. It now has about 50 million subscribers to Verizon's 104 million and AT&T's 95 million. As a Morningstar researcher recently noted, "While Sprint has struggled, Verizon Wireless and AT&T have benefited at its expense. Fending off these much larger rivals will be increasingly difficult as data services become more important to the industry."

By 24/7 Wall St.

Young Groupon (GRPN) seems an unlikely candidate for a list of companies that have their best years behind them. But its stock price has fallen by more than 70% since its November 2011 IPO. Groupon's primary problem is that the online coupon business it pioneered is a commodity business now. Amazon and other large retailers have had little trouble entering the sector.

Groupon soared upward: In 2009, it posted revenues of only $15 million, but by 2011 revenues were over $1.6 billion. But Groupon paid dearly for that growth. The company lost $675 million over that same two-year period before interest and taxes. Groupon's revenue keeps growing, but its bottom line losses are growing too: In the most recent quarter it lost $147 million, far worse than its loss of $12 million a year earlier.

Groupon's new competitors have replicated most of its tactics rapidly. Chief rival LivingSocial had 7.2 million unique visitors last year to Groupon's 11 million, according to online industry research firm Comscore. Google has entered the sector with a product called Google Offers. And those are just the big names: Industry website VentureBeat lists 33 direct competitors to Groupon.

By 24/7 Wall St.

AMD (AMD) was Intel's (INTC) primary competitor five years ago, but its latest quarterly report shows just how far it has fallen. Year-over-year revenue dropped 10% to $1.4 billion. In 2007, it held about 24% of the server and PC chip market. Last year, its market share was just 19%. And then, there's AMD's single greatest problem: In 2006, it bought graphic chip maker ATI for $5.4 billion. At the time, the move made sense: PC makers were using more of ATI's chips in their machines, and AMD needed to keep pace with Intel and graphic chip maker Nvidia. (NVDA)

But the purchase did almost nothing to help AMD's fortunes; its main result was that it saddled AMD with unsustainable debt. In 2007, AMD had revenue of $6 billion, while Intel's was $38.3 billion. Last year, AMD's revenue had risen to $6.6 billion, while Intel's had soared to $54 billion.

AMD has had three CEOs in the last five years as it struggled to find a strategy for growth. The company's greatest challenge may lie ahead as much of the personal computing market moves to tablets and smartphones, where Samsung, Qualcomm (QCOM) and ARM Holdings (ARMH) dominate, and AMD's products are almost nowhere to be found.

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J.C. Penney (JCP), founded in 1913, counted itself among the top retailers and catalog companies in the U.S. for decades. But under CEO Myron Ullman III, who took over in 2004, its revenue began to slide, dropping from $19.9 billion in 2007 to $17.3 billion in 2011. Over the same period, earnings fell from $1.1 billion to a loss of $152 million.

J.C. Penney's share price has fallen 70% in five years. By way of contrast, shares of Macy's (M) and Target (TGT) have been essentially flat over the same period. Penney's lost ground to these two companies and several others, including Walmart (WMT) and Costco (COST). Eventually, the problems became so pronounced that it closed its formerly successful catalog business and reached outside for a new CEO. The board's choice was Apple retail chief Ron Johnson, who came in with a mandate and a plan to revamp the company. However, his big move to eliminate most sale events and change the company's pricing structure drew a poor reaction from shoppers: Revenue dropped an extraordinary 20.1% to $3.2 billion in the first fiscal quarter, and J.C. Penney posted a loss of $163 million. And internet sales fell 27.9% to $271 million.

Again, by way of comparison, Macy's overall sales rose 4.3% to $6.1 billion in the last reported quarter. And Macy's is hardly J.C. Penney's largest competitor by revenue or workforce. Walmart's sales were $450 billion last year, while Costco's were $89 billion.

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Gamers complain that the chain is ripping them off, and they're probably right. GameStop offers so little in credit that even at marked-down resale price it's where the chain scores its thickest profit margins.

Well, either consumers have caught on or they're no longer interested in playing older games. Pre-owned sales fell by a whopping 11% in GameStop's latest quarter.

There Isn't Always an Option to Continue

This was supposed to be the last line of defense at GameStop. As software publishers and players embrace digital delivery, there isn't necessarily a need for a physical retailer as a middleman.

Software companies won't shed a tear for the demise of GameStop. Keep in mind that they only get paid on new releases. And developers and royalty-collecting console makers don't collect any money on pre-owned sales.

Gaming websites reported last year that Microsoft (MSFT) and Sony (SNE) were even considering either going all digital or incorporating features that would prevent secondhand games from playing on the new consoles that should hit the market within the next two years.

However, pre-owned sales were supposed to be resilient. Older games were supposed to have long shelf lives if the discounts were ample, and this business was supposed to continue thriving as penny-pinching gamers wax nostalgic.

Well, those days are apparently over.

It's a Model in Flux

It was just three years ago that Activision Blizzard (ATVI) raised the bar -- or at least the bar chord -- with the release of Guitar Hero.

GameStop executives were even exploring ways to grow their store space to accommodate the plastic guitars and Rock Band drum kits that were all the rage.

Well, that rhythmic music craze died quickly. Activision Blizzard went on to ax the fake guitars, and GameStop went back to gamers who were starting to turn to smartphones and tablets as outlets for cheap casual and social games.

Obviously there's no comparison between a $60 copy of Skyrim and a $0.99 Angry Birds app, but for mainstream audiences it's been more than enough. There's a reason that physical hardware and software sales in the video game industry have been freefalling since 2009.

Where does that leave GameStop?

With its high-margin resale business teetering, net income plunged 32% in its latest quarter. GameStop may point to its digital and mobile sales as growth markets, but those two categories added up to just 11% of GameStop's sales this past quarter.

Things seem to get worse with every passing quarter.

The Ever-Shrinking Small-Box Retailer

Back in March, GameStop was targeting positive comps of 1% to 5% for the entire fiscal year. Two months later the outlook for same-store sales was down to between flat and off by 5%. In last week's report, GameStop's eyeing comps to fall by as much as 10% this year.

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GameStop has a clean balance sheet. The stores are still profitable. It's been buying back shares – sadly, at higher prices -- to keep earnings on a per-share basis respectable.

However, this story doesn't end well.

It's been 10 months since my original "Why GameStop Will Never Be Great Again" article, and the stock has shed a quarter of its value. Even with a beefy dividend that was hiked last week, investors know that GameStop's relevance is on a downward spiral.

It was a good run, but the market's ready to play a different game now.

Motley Fool contributor Rick Munarriz does not own shares in any of the stocks in this article. The Motley Fool owns shares of Activision Blizzard, Microsoft, and GameStop. Motley Fool newsletter services have recommended buying shares of Activision Blizzard and Microsoft, creating a synthetic covered call position in Microsoft, creating a synthetic long position in Activision Blizzard, and creating a modified stock repair position in GameStop.
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