- The new console generation installed base will accelerate 4-5Xs from 10 million units today to 40-50 million units by the end of 2015.
- GameStop is gaining 1,400 bps of software market-share this new console cycle vs. the last console cycle.
- Fundamental hedge-funds are positioned short and hardly any are long GameStop.
- GameStop generating double-digit 2015 growth due to the underlying new console cycle fundamentals along with its double-digit FCF yield is a great risk/reward long setup.
The key underlying analysis is where we are in the new console cycle. This generation just started in late 2014 with the launch of Microsoft (NASDAQ:MSFT) Xbox One and Sony (NYSE:SNE) PlayStation 4. Sony has said as of early April, 7 million PS4 consoles have been sold to consumers. Microsoft has said as of April, 5 million Xbox One consoles have been sold into the retail channel.
Microsoft isn't doing as well as Sony mainly because the initial Xbox One SKU bundled a Kinect camera/motion sensor device, which resulted in a higher price-point of $499 vs. the $399 of the Sony PS4. Microsoft realized their error and recently announced they will offer an Xbox One model without the Kinect for $399. GameStop said on the conference call, since the $399 Xbox One announcement they are seeing more Xbox One reserve orders and store traffic. Lower prices are obviously good for sales.
Let's be conservative and say 3 million Xbox Ones of the 5 million sold into the channel have been sold through to gamers. 3 million Xbox Ones + 7 million PS4s = a 10 million new generation console installed base by early April 2014.
Sony said last week they expect to sell 17 million game consoles in the next 12 months. Using rough estimates pro-rating the recent decline in PS3 and Vita console sales, I estimate at least 13 million of that 17 million will be PS4s. Being conservative with Xbox One market-share even with the new $399 price-point, l estimate 7 million Xbox One will be sold in the next 12 months. That would mean 20 million more new generation consoles sold giving us a 30 million installed base by April 2015.
By late holiday 2015 extrapolating those sales trends, we are likely to see 40-50 million new console units sold to gamers ready to buy new software. Even these numbers may be conservative because in this cycle both console makers are mainly using commodity PC parts for their hardware vs. custom chips in previous cycles. Sony even said last week the Sony PS4 hardware is already profitable, which is unprecedented at this point in the cycle. This leaves a lot of room to cut hardware prices in the coming years, driving even more demand. Using commodity PC parts enables the hardware makers to ride the cost curve down even more aggressively as the costs are spread out across the hundreds of millions of PCs sold annually.
Gamers don't buy $399 consoles to collect dust on the shelf; they will buy games. In fact, Ubisoft just announced today, "In its first 24 hours of availability, Watch Dogs sold more copies than any previous title in Ubisoft's history."
That is an absolutely amazing result as Ubisoft has many established franchises such as Assassin's Creed, Far Cry, and Splinter Cell. Assassin's Creed 3 sold more than 12.5 million units. For a new intellectual property game like Watch Dogs launched in a slow time of year like late May on its first day out-sell every other game in Ubisoft's history shows you how starved gamers are for new console software. This record breaking sales result points to strong new console software sales ahead.
And the new console software pipeline will only get better into late 2014 and holiday 2015. Destiny and Evolve will both come out later this year. Activision (NASDAQ:ATVI) vowed that this year's Call of Duty was the first one made for this new console generation in mind. And then 2015 will have Witcher 3, The Order 1886, a possible Red Dead sequel from Take-Two's (NASDAQ:TTWO) Rockstar, a new Halo game, a new Star Wars Battlefront game, and Battlefield 5, etc. As the hardware installed base grows from 10 million today to 40-50 million at the end of 2015, the software pipeline will be there alongside with accelerating software sales growth.
Why is GameStop going to benefit? According to Merrill Lynch using NPD data, GameStop is gaining huge market share in this new console software generation. Merrill says GameStop's "Xbox One and PS4 software share was 49.1% vs. ~35% pre next gen launch." That is 1,400 bps of market share gain. A stunning 14%.
As the new console hardware installed based grows 4-5X into late 2015, GameStop taking 1,400 bps more software sales market share this cycle vs. last cycle, and a strong 2015 new console software pipeline, all points to strong double-digit growth in both earnings and sales for GameStop in 2015.
The surprising thing even with this clear data-driven evidence of where we are in the new console cycle, the likely 4-5X hardware installed base into late 2015, and GameStop's software sales market-share gains, GameStop is one of the most heavily shorted stocks in the market. I went through the top 50 holders of GameStop analyzing March 2014 13F filings and there was not one well known long-short equity fundamental hedge-fund long GameStop on the top 50 holders list.
This positioning is the exact opposite of a crowded hedge-fund long, which means there is a lot of buying potential ahead as the market and these hedge-funds realize the accelerating fundamentals. This is basic fundamental analysis and simple math on hardware console cycles and software market-share gains. They will figure it out eventually.
With strong 2015 double-digit growth, a double-digit free-cash-flow yield valuation, and accelerating industry and company specific fundamentals, I reiterate my conviction of a $80 fair value price target within 2 years.