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Will Digital Trade-Ins Doom GameStop?

Publisher Valve's plan may change video game industry's future

The video game retail landscape has changed dramatically over the past eighteen months. At the beginning of 2009, GameStop (NYSE: GME) had a vice grip on physical game sales thanks to the mass profits brought in by its video game resale business. Used video games sales were going to keep the gaming industry recession-proof, and other retailers rushed to develop trade-in programs that mirrored GameStop’s. Big-box retailers Best Buy (NYSE: BBY), Target (NYSE: TGT) and Wal-Mart Stores (NYSE: WMT) all launched test programs at stores across the United States, while (NASDAQ: AMZN) began its own used-game sales program allowing customers to mail in their games for credit towards pre-owned purchases. Now Best Buy, Target and Wal-Mart Stores’ used-game programs are nationwide and Amazon’s used-games program continues to do modest business, just as the used-game market has started to decline. GameStop stock dropped to $18 per share, down 34% year-on-year, after reporting weak third-quarter earnings in August due to sagging used-game sales. A business model that relies on used game sales as a primary source of revenue is no longer viable as the video game market shifts from physical product to digital distribution —  that is, unless a rumored new sales model from independently owned company Valve proves successful.

 Wedbush Morgan analyst Michael Pachter told Imagine Publishing outlet NowGamer that Valve, the game developer and publisher behind popular franchises Half-Life and Left 4 Dead, will begin offering a trade-in program for its digital distribution and social gaming network Steam. While Pachter didn’t go into detail about Steam’s trade-in program, he did say that the publisher would take a fee from each trade-in, though he didn’t specify if the game developer or the customer would pay the fee. Valve’s vice president of marketing Doug Lombardi later said the rumor was untrue, saying that his company had never dealt with Pachter in the past, though given Valve’s history of staunch secrecy, the denial means little.

According to a September study published by the NPD Group, Valve’s Steam is the current leader is the digital PC game sales market, followed closely by devoted publishers Electronic Arts (NASDAQ: ERTS) and Activision Blizzard (NASDAQ: ATVI). Valve also has plans to expand into the video game console market — it announced at June’s E3 conference that Valve releases on Sony’s (NYSE: SNE) Playstation 3 would receive support from the Steamworks service starting with the new title Portal 2. If Valve introduced a trade-in program for digital games, it would stand to redefine the game sales market much in the way that GameStop did with physical games in the mid-1990s.

If a digital trade-in program is proven viable by Steam, it would mark the end of Best Buy’s, Target’s and Wal-Mart’s games business on a long enough timeline. Those major retail chains would be left playing catch-up by the end of this decade, while retailers like and GameStop, which have already taken steps to build their digital game businesses — namely GameStop’s recent remodeling of retail spaces and the acquisition of Web portal Kongregate — would allow them to transition to the new model. More importantly though is that a digital trade-in model would allow publishers themselves control the secondary market of their products. Activision, Electronic Arts, Take-Two Interactive (NASDAQ: TTWO) and others could allow users to return licenses for purchased products in exchange for different software licenses or updated content. This would also give greater power to platform holders Microsoft (NASDAQ: MSFT), Sony, and Nintendo, which would be able to leverage their digital storefronts like the Xbox Live Arcade, PSN Store and WiiWare shops to allow for fee-based exchange transactions. GameStop shareholders would see the massive profits of 2008 turn into a distant memory, while shareholders in devoted game publishers would see profits rise due to the dissolution of an uncontrolled secondary market.

As of this writing, Anthony Agnello did not own a position in any of the stocks named here.

Article printed from InvestorPlace Media,

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