Investing Lessons [Advanced]

GameStop Q3 17 Earnings — Glad Going Against The Crowd Was Right

Chris From RWOA.io, Re-ThinkWealth Content Expert

22 November 2017

Almost all the articles in the universe were going against GameStop for these past few months. But I was still rooting for it as you can see from my last article here.

In Seeking Alpha alone, many articles are putting down the company. Just one day before the earnings report on 20 November 2017, an article titled GameStop: Unsustainable Sales Growth Despite Diversification by Kathy Zhang was released.

On 3 November 2017, the host of a popular tv program called “Mad Money” Jim Cramer said “I am concerned about GameStop. I have to tell you if they’re going to sell EA down and they’re going to sell Activision Blizzard down… It’s going to be a very digital holiday season, and to me, that means that’s bad for GameStop, so I’m going to have to say don’t buy.”

Now, on 21 November 2017 after the market closes, here are the earnings result summary for GameStop Q3 17:

  • Earning are at $55.1M vs. $50.8 M last year
  • Earnings year or year (Y-o-Y) growth at 8.5%
  • Earnings per share (EPS) is at $0.54 vs. $0.49 last year vs. analyst estimate of $0.43
  • EPS (Y-o-Y) growth at 10.2%
  • Revenue is at $1.99 B vs. $1.96B last year
  • Revenue (Y-o-Y) growth at 1.5%

Here are more details on from reading the earnings call transcript:

  • Paul Raines had a recurrence of his previously disclosed medical issue. Dan DeMatteo is the interim CEO.
  • Dan DeMatteo has been part of GameStop leadership team for 25 years. He was their COO from 1996 to 2008 and served briefly as CEO from 2008–2010.
  • The gaming (hardware sales grew nearly 9% and new software up more than 5%) and collectibles category (up 27% from last year) was the star performer this quarter.
  • Technology brands result lagged expectations due to a later release of Apple’s iPhone X. In the next quarter, the focus is on maximizing the sales of iPhone X and managing cost to drive profitability.
  • They plan to drive further growth into collectibles by capturing more market share through offering exclusive products and a greater assortment of items.
  • They are very confident with the experienced team they have and with the momentum in the video game segment. Overall, they will be focused on executing their various holiday sales plan well heading into the holiday season.
  • Their video game store has been reduced by 18, and now they have 3,869 video game stores in the U.S. and 1,985 internationally. They closed 3 technology brands stores and now had 1,506. They opened 3 collectible stores in the quarter and now have 102 worldwide.
  • Their PowerUp rewards program continues to grow 25% over the prior-year quarter. This is a paid membership, and these customers shop nearly 3.5 times more often than the average shoppers.
  • During Q3 17, they also launched a new super premium members program called the PowerUp Elite Pro which is sold for $30 a year. It already has 0.5 million members, and these customers are projected to average 20 purchase occasions a year.
  • They have the leading Nintendo Switch hardware and software market in the U.S. and most of their international markets. Even new software grew by 5.4%.

Here are more details from the Q&A section of the earnings call:

  • 25% of their stores have already been turned to GameStop plus format which is a 50–50 combination of games and collectibles. What is interesting here is that despite lesser space to put video games, they actually see an increase in video games sales. This got to do with the new types of customers that these products bring into GameStop — meaning that maybe they did not buy video games before and when they came in to buy collectibles and signed up for their loyalty program, GameStop can market these people video games later as well.
  • They are continuing to focus on giving dividends to return capital to shareholders.
  • Adding debt to the company to buy shares would be an unlikely option for them.

Based on my last article here, I said that their focus on the collectibles and technology is a step in the right direction because even though in 2016 these segment only accounted for 15.2% of their revenue, but it accounted for 36.9% of their total operating earnings.

Their margins in collectibles grew from 36.3% to 38.1%. I also like the fact that their collectibles team managed to secure the first mover advantage to market line of products from the Pokemon Group (first company in America to do that outside of Japan). Hence, GameStop is the only retailer in America to feature these classic characters from Pokemon. This is an important aspect that will drive foot traffic further to GameStop retail shops.

Their omnichannel strategy in their collectibles segment is doing well too by growing 71.4% year to date.

“As you recall, we have a robust omnichannel system that combines ship-to-home from either our warehouses or our stores and buy online pick-up in-store. We also have web in-store that provides an endless aisle of both GameStop and ThinkGeek products and we recently added buy online ship to store. All of this is wrapped in our PowerUp Rewards program to provide a consistent experience across all channels.” — Tony Bartel, COO

What am I going to do now

Armed with these new updates from Q3 17 earnings — which is encouraging — I will stick with my plan of selling GameStop when it is in the range of $20.5-$27. My average cost for GameStop is around $20.

I will stick to my thesis in this investment which is not supposed to be a long-term holding — but more of a cigar butt investment.

Image credit: Seeking Alpha

Which means that despite the pre-market rally of 7.59% for GameStop, I will not sell it just yet.

Although the technology segment lagged this quarter, I am highly encouraged by their diversification efforts leading to growth in their collectibles segment — and surprisingly, their games segment too.

The management team has been doing well so far leveraging on their strength — their retail stores through their omnichannel strategy and effective partnerships (such as the one with Pokemon) for their collectibles segment.

So far, I am satisfied with holding GameStop, and this cigar butt investing thesis might even turn into a turn around play with new information coming in, in time to come.

The key learning lesson here is the importance of learning to think independently and ignore the noises — make your own judgement call in whether to buy, hold or sell your stocks. For GameStop, I knew that a company with a ROE of 15,33%, PE ratio of 5, PB ratio of 0.73 and a Price to Free Cash Flow of 3.19 is still too cheap — even for a “dying retail industry” business.
My latest update to the last article I wrote on GameStop– with regards to my action plan. ☺️

Read the full earnings call transcript on GameStop here.

Disclosure: I am long on GameStop (NYSE: GME)

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