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Digital downloads cast doubt on GameStop’s future


Marlon Gomez likes his video-game discs. The 41-year-old shipping worker, shopping recently at a GameStop in Los Angeles, said he can lend them out or bring them to friends’ homes, which he can’t do with a download. He can also sell used games back to the company.

“I’m old school that way,” Gomez said in an interview.

The question for GameStop Corp. is how long people like Gomez will keep visiting stores. The company is the world’s largest specialty retailer of video games, with sales topping $ 9 billion (U.S.). It also owns EB Games, Canada’s largest video games retailer.

Yet suppliers such as Activision Blizzard do more business online today, making discs look obsolete.

Investors are asking, too. As 2015 draws to a close, GameStop is the most shorted stock in the Standard & Poor’s 500 Index, with 46 per cent of the available shares borrowed and sold by investors betting that they’ll drop more. They’re also among the worst performers in the S&P 500 this quarter and have slumped 27 per cent since late November, when sales and profit missed analystsestimates.

“GameStop appears to be the big holiday loser as digital and e-commerce increasingly eat into its business,” Evan Wilson, an analyst at Pacific Crest Securities, wrote in a Dec. 28 note to investors. Benchmark Co.’s Mike Hickey, the only analyst with a sell rating on the stock, likened the company last month to RadioShack and Blockbuster, chains “dislocated by digital adoption.”

GameStop disagrees. The share of games downloaded industrywide is about 20 per cent, compared with as much as 30 per cent for books and about 45 per cent for music and movies, according to Matt Hodges, the company’s vice president of investor relations.

“Games are bigger, they cost more, they take more bandwidth” to download, Hodges said. “And they have a residual value.”

The company is also selling more toys and collectibles, like Star Wars bobbleheads. Such products generated $ 138 million in fiscal third-quarter sales, or roughly 7 per cent of the total. Management has diversified into other electronics as well, selling mobile phones and products for AT&T and Apple in stand-alone Cricket, Simply Mac and Spring Mobile stores. That was a $ 165 million business in the latest quarter.

And GameStop is tackling digital head on by selling downloads from its website and in stores. As concerns over credit-card hacking have risen, for example, many customers have chosen to buy anonymous codes in stores which they can use to download games at home. More than 95 per cent of the company’s digital sales occur within its stores, GameStop said. That business is projected to reach $ 1 billion in sales this year, according to a November earnings presentation.

GameStop also has a customer loyalty program, numbering some 43 million members, according to Hodges. Shoppers earn points through purchases or by trading in used games, which can then be used to buy digital copies.

“GameStop has done a lot of really good things to prepare for the digital future,” said Joseph Feldman, an analyst at Telsey Advisory Group, who has a hold rating on the stock. “The reason for my ‘hold’ has more to do with this new product cycle. The older legacy systems are declining at a fast rate.”

The November miss was driven by slower sales of game hardware and software, Hodges said, in part because manufacturers cut the cost of new game systems and bundled free software with PlayStation 4 and Xbox One consoles. GameStop expects to report sales for the holiday season in mid-January. Analysts predict growth in both sales and profit for the fiscal fourth quarter and for all of the next year.

Concerns about GameStop aren’t new. As long ago as 2011, short seller James Chanos was recommending a bet against the stock. He was right for awhile. The stock fell 5 per cent in the next 12 months and then more than doubled in the following year.

The shares are down 16 per cent this year.

Mariann Montagne, a senior investment analyst at Gradient Investments, which bought the stock last year and sold in August, said doubts about GameStop’s future tend to come in waves.

“We thought the negativity had been overplayed,” she said. “When it recovered, we exited with a nice profit.”

TORONTO STAR | BUSINESS

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