Gamestop: 5 Key Reasons To Get Behind This Retail Brand

Aug.11.14 | About: GameStop Corp. (GME)

Summary

Digital and mobile sales continue to offer strong growth and opportunity to fight retail declines.

Gamestop expanding other growth retail brands that offer diversification and a shift away from video games.

Shares trade at less than 10 times expected fiscal 2015 earnings per share.

Strong and growing 3.3% dividend yield, with $400 million in planned buybacks coming as well.

Over a year and a half has passed since I wrote on video game retailer Gamestop (NYSE:GME) on Seeking Alpha. Since that time, the chain has been a constant target of retail worries with analysts and investors predicting the company to go the way of the dinosaur. As video game players shift to digital downloads and consoles make similar shifts, a trip to Gamestop seems to be less needed by customers. However, with several new initiatives and new store concepts, shares of Gamestop need to be on investors' radar.

Digital Growth

One of the keys for Gamestop is digital growth, which might be hard to believe since the retailer has more than 6000 stores. Digital sales hit $724 million in 2013 (see investor presentation) and are on track to hit $800 million in 2014. Mobile sales hit $304 million in 2013, up from the $200 million in the prior year. Together, digital and mobile are responsible for more than $1 billion in annual sales.

Gamestop's web site ranks in the top 25 for all retail sites in the United States. Gamestop has its own digital brand in Kongregate, which had the hit Tyrant game which was responsible for more than 10 million downloads in 2013. The game was a top 50 grossing game in 2013. Digital sales in foreign markets are also growing. In 2013, international digital sales increased 49%.

Digital remains the key growth item for top line sales, but is also having a significant impact on the bottom line with its higher gross margins. Take a look at these estimated gross margin figures for Gamestop's segments:

Segment

Gross Margin

New Hardware

8-11%

New Software

20-23%

Accessories

37-39%

Pre Owned

42-48%

Digital

60-70%

Other

33-37%

Click to enlarge

As you can see, digital comes with lofty gross margins of 60 to 70%. As the company continues to focus on growing digital and focusing less on new hardware and software sales, profits should rise significantly for Gamestop.

Tech Brands Expanding Retail Presence and Diversification

The other big growth driver for Gamestop is its Tech Brands store expansion. The company sees growth in new markets like re-commerce, wireless, and Apple product sales. This has led to expansion plans for several existing Gamestop owned concepts that investors might not even be familiar with.

Gamestop owns the Simply Mac retail bran, which was founded in 2006. The company, which has 23 retail locations in 10 states, is an authorized reseller of the iPhone through a partnership with AT&T and also sells refurbished Apple products.

According to the investor presentation, there are plans to open 14 new Simply Mac stores in the next six months. Simply Mac is the largest Apple specialist in North America and plenty of room for expansion. Apple has 253 retail stores in the United States. Simply Mac's focus is to focus on what it calls tier 2 and tier 3 markets where Apple doesn't have a retail store already. In 2014, there will be 43 Simply Mac stores. That figure will jump to 93 by the end of 2015.

Other concepts from Gamestop also include the Cricket/A10 store, which sells phones through a partnership with AT&T and the Spring Mobile brand, which also sells phones. Together the three concepts make up what Gamestop refers to as its tech brands. Here is a look at the store counts from the investor presentation:

· 6457 Gamestop

· 164 Spring Mobile

· 23 Simply Mac

· 31 Cricket

Plans call for the closing of 120 to 130 Gamestop stores in 2014. The company will open 300 to 400 tech brand stores in 2014. By the end of 2016, Gamestop estimates it will have more than 1000 stores with the Spring Mobile, Simply Mac, and Cricket brands.

By 2016, the tech brands are expected to add $1 billion in sales. This figure was only $63 million in 2013, so the expansion and growth is important to Gamestop going forward. The tech brands will also make up 10% of earnings per share by 2016. The tech brands had first quarter sales of $60.2 million and posted an operating profit of $6 million. There were 52 stores added in the first quarter.

Gamestop is an exclusive partner for both Apple and AT&T. The company has focused on these two strong brands and sees strong store expansion related to the concepts. The expansion diversifies Gamestop away from total reliance on video game sales.

PowerUp: 28 Million Members and Counting

Gamestop is continuing its enhancement to its PowerUp rewards membership program. The program has grown to more than 27 million members. Gamestop has plans to roll out loyalty programs in 11 more countries around the world in 2014.

Here is a look at how the PowerUp rewards program has grown in membership numbers:

· 2010: 8 million

· 2011: 17 million

· 2012: 23 million

· 2013: 27 million

PowerUp members are a huge market for Gamestop. At the end of the first quarter, the figure now stands at 28 million, with an additional 9 million members in international territories. The members spend 15% more in stores and online than non members do. In fact, PowerUp members make up71% of total Gamestop sales in the United States.

The PowerUp rewards program may have an even bigger financial impact going forward. Reports are out that Gamestop is preparing to launch a credit card. The credit card would come with a high interest rate of 26.99%. The card will tie in close to PowerUp, with first reports that all members will be pre-approved and may be marketed to first for the card. The credit card will have a rewards program or offer rewards to PowerUp members, as the promotion materials show 5000 points for basic members and 15,000 for PowerUp members.

New Trade-In Program

Another possible boost to Gamestop is its new trade-in program. As competition heats up from Amazon, Wal-Mart, and other retailers, Gamestop wants to make sure gamers are still coming to their stores to trade in old games. After all, the majority of trade-in money goes directly to the retailer in the form of new game purchases. In 2013, 76% of the $1.2 billion trade-in credits went towards new games from Gamestop.

A new trade-in service is set to launch August 18th that will pay out flat rates in either cash or credit to consumers. This eliminates the rather confusing current model that offered 10 possible prices paid per used game. This might improve trade-ins and also improve customer satisfaction. More importantly, since PowerUp members get 10% more value for trade-ins, the rewards program may see an immediate bump in registrations.

Shareholder Friendly Company

Gamestop's dividend yield is another reason to get behind the retailer. Gamestop yields around 3.3% for investors who can bet on the growth of digital downloads and new chains. During its investor presentation, Gamestop cited a plan to return 100% of free cash flow to shareholders unless a better opportunity arises. Gamestop also has $400 million left on its buyback plan after purchasing $52 million worth of shares in the first quarter.

Financials

Recent first quarter earnings were strong for Gamestop. The company reported a total sales increase of 7% to $2.0 billion, led by same store sales growth of 5.8%. This represented the third straight quarer of same store sales growth. Gross margins increased to 31.4%, an improvement of 40 basis points. Digital revenue grew 9.5% to $190 million. Mobile sales grew 100% to $102.2 million. Earnings per share increased 28% to $0.59.

Gamestop gave guidance for full year revenue to rise 8 to 14%. Earnings per share are expected to come in a range of $3.40 to $3.70. Analysts on Yahoo Finance see full year sales growing 10% and earnings per share coming in at $3.67. In fiscal 2015, revenue is expected to grow 8% to $10.8 billion. Analysts see earnings per share growing to $4.35 in fiscal 2015, giving shares of Gamestop a forward price to earnings ratio of less than 10.

Conclusion

Shares of Gamestop are now up 79% since my 2012 article, where I called the company a winner from the upcoming three consoles. In 2014, shares of Gamestop are now down 17%. That comes after a two year run that has seen shares rise more than 150% thanks to new console sales and the increase in games that came along with it. Shares of Gamestop have now traded between $33.10 and $57.74 over the last 52 weeks.

There will always be a slight risk with investing in Gamestop as retail sales are on the decline across the nation. Gamestop is a niche company with a focus on video games that will always be a target to go the way of Blockbuster and Circuit City and become non-existent. However, strong first quarter same store sales and new store expansion in other markets provides safety from this potential.

Gamestop will report quarterly earnings on August 21st. Investors will be looking for strength in digital sales and possibly store expansion for non video game concepts. Investors should consider buying shares of Gamestop at the $40 level and enjoy a healthy dividend along the way. This retailer isn't dead yet and appears to have solid growth ahead.

Disclosure: The author has no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. The author wrote this article themselves, and it expresses their own opinions. The author is not receiving compensation for it (other than from Seeking Alpha). The author has no business relationship with any company whose stock is mentioned in this article.