There is structural change taking shape in the game industry. According to CLSA, the industry is moving from (1) the console to portables, (2) core game devices to smartphone/tablets, and (3) package games to online games. Game companies are under pressure to take different approaches to attract customers.
With more mobile handset based and online games, game-hardware makers and game retailers need to incentive consumers with more reasons to own physical video games. Some companies are reforming distribution strategies to deal with this trend, by developing games for social gaming networks, online game play, and in the process increasing business opportunities and profit streams.
The future of Game Group, the second largest specialist video game retailer globally, and the largest in Western Europe, has become increasingly uncertain. The company has recently put out a statement confirming it is looking for a buyer and is widely expected to enter the formal bankruptcy process in the nearby future. Game Group has had difficulties adapting to the changes affecting the broader media products channel as a whole, losing sales to digital downloads and struggling to maintain its margins in the wake of aggressive pricing from grocery retailers.
Game Group operates more than 1,300 outlets across Europe. For its financial year ending January 2011, the company reported revenues of $2.5 billion excluding VAT. The largest portion of its sales came from the UK (US$1.4 billion excluding VAT).
Things have have changed rapidly for the Game Group. In 2010, the retailer posted a net profit of $24.7 million on revenues of $2.7 billion. In 2009 this was $97.7 million on revenues of $2.9 billion, but its management remained optimistic about the company's ability to adapt to the changes in the video products retailing landscape, in particular counting on Game's increasing focus on growing its "digital" sales. Game started selling Xbox Live and PlayStation Network cards and selected digital games downloads through its stores in summer 2011 and also partnered Gaikai to offer on-demand game demo streaming on its website. However, these changes came too late for the company to ascertain whether they could safeguard the company from declining sales of boxed video games.
Revenues of media retailers have been in decline for a number of years now. The channel has suffered from the shift from the physical retail of boxed CDs or DVDs to digital downloads, such as Xbox Live or Steam in video games or iTunes in music video. This has left the market size for boxed software on decline. In addition, a number of grocery retailers such as Wal-Mart and Tesco have started to sell more media products, offering discounted prices on big game releases to lure consumers into stores. Also online stores such as Amazon affected the landscape quite a bit.
GameStop (NYSE:GME), the U.S. giant and the world's biggest specialist video game retailer, has been more successful in competing with grocery retailers and diversifying into digital sales. With a retail network of more than 6,600 company-operated stores they could be interested in parts of Game Group.
In 2011, GameStop bought Impulse, a direct download site, making a move into digital downloads. In addition, it has better managed to keep the likes of Wal-Mart (NYSE:WMT) and Target (NYSE:TGT) at bay, maintaining its status as a favorite destination to purchase or trade-in video games.
GameStop owns Game Informer Game Informer, the largest video games magazine in the world by circulation, which has helped them to stay in-touch with the video gamer population. This connection with consumers has been instrumental in better shielding GameStop from grocery retailers. Its pre-owned business, for example, has coped better with the arrival of Wal-Mart into pre-owned games market than Game has with Tesco and Asda (owned by Wal-Mart), both of which now have fairly successful trade-in sections. Wal-Mart has not been able to draw enough gamers into its stores to run a viable trade-in model, and instead relies on purchasing pre-owned games from other sources rather than buying them from gamers.
However, even GameStop has had difficulties reassuring investors its business model is sound. Despite the retailer's incremental rise in sales since 2008 and its ability to maintain a profit during all quarters of the year, which is rather unusual in this industry, its stock price has dropped by more than 60% from its 2007 high, reflecting investor concerns.
GameStop could particularly be interested in Game Group's UK and Spanish businesses. GameStop's financial health is in good shape with no long term debt and a cash position of $329 million. The stock trades below book value ($22.57) and has a P/E ratio below 8. GameStop has proved its ability to adjust and adapt in difficult market conditions. Chapeau!
Disclosure: I have no positions in any stocks mentioned, but may initiate a long position in GME over the next 72 hours.