GameStop Partners with ATVI to Keep Digital Business Growing, but Is It Enough?

Earnings still would suffer if the market for used physical games shrinks

   

GameStop Partners with ATVI to Keep Digital Business Growing, but Is It Enough?

GameStop (NYSE:GME) reported earnings on Thursday for its most recent quarter, which ended on Jan. 28. How did the holiday period treat North America’s biggest video game retailer? Not spectacularly.

As previously estimated, sales were slightly down from the same period the year before. Total sales for the quarter came to just below $3.6 billion for the retailer, compared to just under $3.7 billion in 2010. Net earnings took a much steeper hit, though, falling to about $175 million from around $238 million for the prior-year quarter.

For the full fiscal year, net earnings fell to just under $340 million from $408 million in fiscal 2010, on earnings that were up slightly at around $9.6 billion from $9.5 billion last year.

The full fiscal-year picture paints in broad strokes the problems inherent in GameStop’s current business model. The company has been aggressively working to remodel itself as a seller of digital goods rather than physical ones. It is a slow process but one that appears to be working. The sale of digital goods — including games, downloadable add-on content for retail games like Call of Duty, and other digital services — grew 57% across all of fiscal 2011.

Leaning on digital sales

While he didn’t go into specifics during Thursday’s earnings call, GameStop CEO Paul Raines said that the company is expecting digital sales to continue growing throughout 2012. He did announce new initiatives that should help GameStop reach that goal, namely a new partnership with Activision Blizzard (NASDAQ:ATVI) that will see the retailer selling digital games and in-game goods for Blizzard games in stores.

The first game to benefit from this partnership will be Diablo III, the much-delayed sequel to Blizzard’s hit series. When the game hits stores in May, customers will pay for the game in a store and receive a PIN code on their receipt to redeem the game on their PC at home.

Estimates place the digital games market at $39 billion by 2014. GameStop’s goal, according to Raines, is to control $1.5 billion of that revenue in 2014.

It’s a good plan. Digital goods already account for around 40% of GameStop’s quarterly profits. It made around $21 million selling digital subscription’s to ATVI’s Call of Duty Elite subscription service in stores, so its digital goods business can at least partially sustain its physical retail operation.

What to do about used games

One lingering issue, though, is what GameStop might do to manage a possible decline in the market for used physical games. Used games are responsible for 46% of the company’s quarterly profits. GameStop insists that the next round of gaming machines from Sony (NYSE:SNE), Microsoft (NASDAQ:MSFT), and Nintendo (PINK:NTDOY) will still play game discs that are purchased secondhand.

“”Remember that used video games have a residual value. Remember that GameStop generates $1.2 billion of trade credits around the world with our used games model,” said Raines, “So, consider taking used games out of that, you’d have to find new ways to sell the games, and our partners at the console companies have great relationships with us.”

Rumors persist, though, that Microsoft’s next Xbox will block used games from working. Publishers already use online passes to restrict access to online content in used games, so GameStop’s insistence that its content partners aren’t trying to work around the current business model rings false.

GameStop’s digital business is growing fast, but not fast enough to carry 80% of its quarterly profits in the near future. But if the used-games market is squeezed, that’s just what it will have to do.

As of this writing, Anthony John Agnello did not own a position in any of the stocks named here. Follow him on Twitter at @ajohnagnello and become a fan of InvestorPlace on Facebook.


Article printed from InvestorPlace Media, http://investorplace.com/2012/03/gamestop-partners-with-atvi-to-keep-digital-business-growing-but-is-it-enough-gme-atvi-sne-msft-ntdoy/.

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