GameStop: The retailer of the future?

The debate about the future role of the traditional retailer in the games business has been going on - in earnest - for several years. Two principle points are most often discussed. On the one hand, the sale of pre-owned games is an issue for publishers, but a commercial lifeline for retailers; while the blossoming digital download infrastructure basically excludes retail and improves margins for publishers.

There are other factors which GamesIndustry.biz has written about in the past, which I'll touch on again later - but the real question has been: How can retail adjust to the brave new world, and still play a relevant and active part in the video games business food chain?

We've covered a couple of UK specialists already in the past months - HMV and GAME - but yesterday US-based group GameStop filed a Form 10-K, an annual report on the company's performance required by the SEC (Securities and Exchange Commission).

Inside, along with a comprehensive round-up of financials and current performance evaluations, store inventory and so on, are two particularly interesting insights into how GameStop is looking into that brave new world - and just how aware the company is of evolving threats.

"We expect the continued sale of new platform technology and software to drive trade-ins of previous generation products, as well as trade-ins of next generation platform products, thereby expanding the supply of used video game products."

Yes - Pre-Owned Will be Crucial

Broadly-speaking, many of GameStop's primary growth plans aren't dissimilar to those you'd find in the strategy documents of most retailers. Increasing store sales, driving the brand awareness, optimising the open/close patterns of stores and taking more market share. Two sections are particularly interesting to the video games community, however. The first:

"Increase Sales of Used Video Game Products: We believe we are the largest retailer of used video game products in the world and carry the broadest selection of used video game products for both current and previous generation platforms, giving us a unique advantage in the video game retail industry.

"The opportunity to trade in and purchase used video game products offers our customers a unique value proposition generally unavailable at most mass merchants, toy stores and consumer electronics retailers.

"We obtain most of our used video game products from trade-ins made in our stores by our customers. We will continue to expand the selection and availability of used video game products in our stores. Used video game products generate significantly higher gross margins than new video game products.

"Our strategy consists of increasing consumer awareness of the benefits of trading in and buying used video game products at our stores through increased marketing activities and the use of both broad and targeted marketing to our PowerUp Rewards members.

"We expect the continued sale of new platform technology and software to drive trade-ins of previous generation products, as well as trade-ins of next generation platform products, thereby expanding the supply of used video game products."

Clearly, this isn't something that publishers (and probably developers too) would be excited about hearing, but it's pretty obvious that it's going to be a cornerstone of the company's business moving forwards.

In absolute numbers, new software sales were up $237.8 million over the previous year; new hardware fell by $36.5 million; and used products grew by $75.5 million. That means the growth of new games outstripped the growth of used products by more than three-to-one.

Crunching the Numbers

To put it in context, in the company's fiscal 2010 period (the 12 months to the end of January 29, 2011), the company posted total revenues of $9.47 billion. The three primary areas of income are new hardware, new software and used products (both hardware and software), with a chunk of income split off into "Other" and covering ventures such as advertising in Kongregate's online games, and so on.

New hardware pulled in $1.72 billion, new software pulled in $3.97 billion and used products generated $2.47 billion in sales. As a proportion of the total, the biggest - by an increased distance - was... new software. Sales of new games accounted for 41.9 per cent of total sales, compared to 41.1 per cent the previous year; used products fell as a proportion from 26.4 per cent to 26.1 per cent, and hardware reduced its share from 19.3 per cent to 18.1 per cent.

In absolute numbers, new software sales were up $237.8 million over the previous year; new hardware fell by $36.5 million; and used products grew by $75.5 million. That means the growth of new games outstripped the growth of used products by more than three-to-one.

That's possibly something of a surprise given the headlines about market decline and so on, and while it doesn't paint a complete picture of the overall games business by any means (because there are other retailers performing differently, etc), it's actually good news for publishers.

Switching views to gross profit, and the picture is quite different. It's been long-established that retailers prefer to stock as little hardware as possible, because the high price points generate the least margin. In GameStop's case the fiscal 2010 numbers were $124.9 million in profit, and a margin of 7.3 per cent - which is very slim indeed.

New software is more promising - $819.7 million from a margin of 20.7 per cent. But used software? Try a margin of 46.2 per cent on for size, generating a gross profit therefore of $1.14 billion. Look at this with business eyes only and it's plain to see the attraction.

In total, sales were up $395.7 million, while gross profit was up by $102.9 million. Frankly, not a bad performance at all, but not necessarily why analysts are rating GameStop shares as Buy, while ratings for other similar businesses are being downgraded.

The stock market basically works on potential - a promise of what's to come. Share prices generally rise if investors believe that a company stands to improve its performance (think Nintendo's meteoric stock rise in the middle of the last decade); and fall if not. It's why some companies can produce great financial results, but the share price still drops... even if that seems unfair. Other things also affect the share price, but this is a primary driver.