GameStop: The Dawn Of A New Cycle

| About: GameStop Corp. (GME)
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Did GameStop just find the bottom of the video game cycle?

I discuss the importance of the Nintendo Switch and key related data points.

The stock is a play on the industry.

Just last week, I talked about GameStop (NYSE:GME) being simply disgusting given the beating it was going to take following weak holiday sales. Yes, I have a long-term buy rating on the stock but really only for the purpose of income. I don't expect growth until a few years after the new consoles are out. I love the business model, but there are fears that GameStop has no real growth prospects, or worse, that it will be cannibalized by the competition. What I mean by the latter is that those who purchase games may simply buy them from competitors like Amazon (NASDAQ:AMZN) or big box stores. Further, I want to reiterate that we must be aware that the digital trend (downloading games rather than buying a CD) is both a blessing and a curse. This is because more digital games mean less physical sales. While downloading is becoming more popular, top of the line gaming with optimal sound and graphics still requires laser style discs at this juncture. But, even still, GameStop's holiday sales were worse than I expected.

You can review more detail in the piece linked in the previous paragraph. Same-store sales fell 18.7% for the two-month period (a 26.6% decline in November and a 13.0% fall in December). Hardware sales were down 30%. New game sales fell 23% and used game sales, which are usually strong, were also down 8%. But why? Because of the video game cycle.

If you don't understand the video game cycle, then these numbers are bleak. In the next few years, there will be a glut of major hardware releases. Of course, it is not hardware that drives sales and profits, it's the gaming/software and accessories. But to sell software, you need the hardware.

Why do I say a new cycle may be starting soon? Well, we have data that supports the notion. The new Nintendo (OTCPK:NTDOY) Switch will be released this year. In fact, it comes out March 3rd. The Sony (NYSE:SNE) PlayStation 4 Pro and the Virtual Reality are a bit of a stop-gap filler to take advantage of 4k UHD TV sales. The whispers are for a potential 2018 release for a new PlayStation system and/or a new Microsoft (NASDAQ:MSFT) Xbox, although there is no clarity. All I can tell you is that they are coming. That leaves us with the Nintendo Switch. What will the Switch bring? Will the industry be back in an upswing? It remains to be seen, but right now we are nearing the bottom of a downtrend. And the current data we have suggests the Switch may be what GameStop needed.

Just this morning, GameStop reported that it has reserved every single console of its first allotment of Nintendo Switch systems. It started taking reservations on Friday so that is a key piece of data that the market may not be factoring in. Because it was fast, consumers haven't reserved it from the competition. While we don't have competitor data, this news is clearly positive. Anecdotally, I was at my local mall in Albany, NY, this weekend, and I have to tell you, GameStop was packed. My kids are of the right age, and guess who is going to be buying a Nintendo Switch, from GameStop nonetheless? Yes, yours truly. Somewhat odd, as I have been sour on the company. Yet here I am putting my own money into a company that some have called the next Blockbuster. We also bought a gamer membership to save on games.

Now, I mentioned that the hardware sales are nice, but it's the software sales that matter. Well, GameStop has 16 titles available to be reserved. At launch, the famous The Legend of Zelda series will see its next installment with Breath of the Wild. Other possible hits include the 1-2-Switch, Mario Kart 8 Deluxe and Super Mario Odyssey.

It remains to be seen the impact of the Switch, but it is a new console and attractively priced at $299. If this isn't the start of a new cycle, then I don't know what is. I also love how the product is being released a full year before Sony and Microsoft come out with their next console. This means the cycle will have time to ramp up. Can you buy now? Well, if you believe in the cycle, then yes. The dividend is more than safe and offers a bountiful 6.2% yield. Despite these negative trends over the last two to three years, the payout has been hiked and earnings easily cover them. Since I recommend a buy as an income name, GameStop is still a win. I want to remind you that the company is also repurchasing shares (having recently bought back 755,000 shares). I have previously wanted to buy GameStop at a $20 price but never pulled the trigger. I am itching to do it, and was close on Friday following the dismal holiday report. I did not buy on this news, but am getting closer. The stock is a bargain if you believe in the industry. I maintain a long-term buy rating in 2017.

Note from the author: Christopher F. Davis has been a leading contributor with Seeking Alpha since early 2012. If you like his material and want to see more, scroll to the top of the article and hit "Follow." He also writes a lot of "breaking" articles, which are time sensitive, actionable investing ideas. If you would like to be among the first to be updated, be sure to check the box for "Real-time alerts on this author" under "Follow."

Disclosure: I/we have no positions in any stocks mentioned, but may initiate a long position in GME over the next 72 hours.

I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

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