GameStop (GME) has been on a wild ride across the past 18 months or so, and it got a little wilder after news from video game publisher Electronic Arts (EA) that EA will start providing its games directly to users.
Specifically, GameStop stock took a big lurch down midday today on the prospect of reduced sales.
The bottom line is that EA has partnered with Microsoft (MSFT) to provide Electronic Arts titles directly to Xbox One users for a $4.99 monthly subscription. Here’s the news direct from EA itself:
“EA Access membership unlocks The Vault, a collection of EA’s biggest games on Xbox One ready for you to download and play. During the beta, gamers will have unlimited access to four great EA games: FIFA 14, Madden NFL 25, Peggle 2 and Battlefield 4, with more titles being added soon. That’s over $100 worth of games for $4.99 a month. You can play these EA favorites as much as you want with the click of a button.”
Oddly, EA stock is not rallying on the news; it’s actually off about 2% as of this writing. Still, that’s not as bad as the drubbing of as much as 7% that GME took in late trading.
So what’s going on with GameStop stock, and why is this such a big deal?
GameStop Stock Barely Hanging On
A brief history of GME stock, before we begin:
GameStop fell hard in the wake of the Great Recession, with GME stock plummeting from a high of over $60 at the end of 2007 to a low of around $16 in 2012. But in 2013, GameStop stock came back with a vengeance — soaring back up to almost $58 per share when GME was at its peak last November.
A big driver of the rally last year was that so many bears had started to camp out in GameStop stock, a glimmer of hope could spark a big short squeeze — like news that Microsoft wouldn’t go nuclear on used-game sales — and result in a 5% to 10% rally in a single session.
GameStop proved last year that it isn’t going bankrupt. The company is comfortably profitable and can comfortably support its good 3.1% dividend yield. GME also took big steps to restructure this year, closing 120 stores in an effort to adapt to the changing video game environment.
However, none of this implies growth.
In fact, GameStop earnings earlier this year already included downward guidance for the video game retailer.
Beyond the balance sheet, there are also big-picture challenges that are creating quite a headwind for GME stock, including:
- General pressure on all retailers amid sluggish consumer spending.
- Margin issues in retail as prices are kept low to lure customers and fend off online competition from Amazon (AMZN) and others.
- The threat to used video games and reselling, which is a huge part of GameStop’s business.
Sure, GameStop has forward price-to-earnings ratio of around 10. But as mentioned before, guidance is going down — not up. Furthermore, moves like this EA Access partnership with Xbox One manufacturer Microsoft prove that the video game business is marching rapidly away from physical games, the same way that movies marched steadily away from DVD rental king Blockbuster.
The pain will continue for GameStop. While some of the rally of 2013 might have been justified based on unfairly low pricing, the rally has brought GME stock back to par — and the news cycle continues to work against this stock.
I’d sell GameStop stock ASAP if you own it.
Jeff Reeves is the editor of InvestorPlace.com and the author of The Frugal Investor’s Guide to Finding Great Stocks. As of this writing, he did not hold a position in any of the aforementioned securities. Write him at firstname.lastname@example.org or follow him on Twitter via @JeffReevesIP.