In-Depth: Inside The Business Of GameStop, Part One

[In the first of a two-part series, Gamasutra analyst Matt Matthews goes in depth on retailer GameStop's business over the last several years, providing data on everything from revenues to used game sales, parsing out important longer-term trends.] The retail videogame industry took a beating in 2009, with declining revenue in several regions including the United States, United Kingdom, and Japan. Despite the difficult economic climate, specialty retailer GameStop eked out a 3 percent increase in revenue and a 7 percent increase in its gross profit for its fiscal year ending January 30, 2010. Below we will take a look at GameStop's business in more detail, and in particular add in the longer term trends found by collating the data from several years of reports. There have been several important changes since we examined the data last year, most notably in the growth of used game unit sales. Revenue and Gross Profit Since 2006, GameStop has increased its revenue by 194 percent, nearly tripling the amount of sales it does in a year. Much of this growth has been driven by expanding its number of retail locations, through acquisitions and opening of new retail locations, both in the United States and abroad. In the U.S., the company controls 801 more stores now than it did in 2006, an increase of 22 percent. Despite that trend, even GameStop's growth was stunted by economic conditions during 2009. While revenue grew by 24 percent in 2008 (from $7.09 billion to $8.81 billion), that same measure increased only 3 percent in 2009. The company claims that decreased consumer traffic through its stores contributed to weaker revenues. In the coming year, GameStop expects revenue to increase at rate of 4 to 6 percent in the coming year, with revenue between $9.44 and $9.62 billion. Wedbush analyst Michael Pachter expects that GameStop will achieve revenue at the higher end of this range. The figure below shows how GameStop's revenue has increased in the past five fiscal years. One gets a much clearer view of GameStop's growth when its revenue is broken out by segment. In its 10-K filings, the company breaks its revenue down into four categories: New Hardware, New Software, Used Products, and Other. The third category – Used Products – includes not only used software but also used hardware and used accessories. Given the sensitivity that publishers have toward used game sales, it is understandable that GameStop might wish to shield its raw used software sales data from direct scrutiny. GameStop's revenue in the past five years, broken out by segment, is shown in the figure below. As the figure above shows, GameStop's business last year experienced a decline in the New Hardware and Other segments while both New Software and Used Product saw growth. The drop in hardware revenue is understandable. At least in the U.S. all four consoles with significant sales (Nintendo Wii, Microsoft Xbox 360, Sony PlayStation 3 and PlayStation 2) saw their average prices drop in calendar 2009, according to data from the NPD Group. Combining New Hardware and New Software sales, the company saw a modest 1 percent decline in revenue during its 2009 fiscal year. For the sake of comparison, the entire U.S. industry saw a decline of 10.7 percent in those same segments during the comparable months in 2009 and 2010. (These numbers are not directly comparable, since GameStop's figures also include revenue from Europe, Australia, and Canada.) As the figure above shows, however, the Used Product segment drove most of the revenue growth in fiscal year 2009. There the company saw revenue increase by $367 million, which is nearly $100 million more than the company's total revenue increase for the year. That is, outside of the Used Product segment GameStop's revenue actually fell by $95 million. When we examine GameStop's gross profits (total value of goods and services less the cost of those goods and services), the picture changes slightly. Gross profits, by segment, for the last five years are given in the figure below. Only the Other segment showed a decline in gross profit in fiscal year 2009. Given the increases in the New Software and Used Product revenue figures, it is no surprise that gross profit in those segments increased. However, as the figure above shows, GameStop also increased its gross profit by $27 million on hardware despite a decline of $140 million in hardware revenue. According to the company, this profit was realized through an increase in hardware replacement plans (i.e. warranties) sold to its customers. That is, GameStop is capitalizing on consumer perception that console and handheld systems may fail or break and is padding its hardware sales margin with extended warranties. The Used Product segment contributed $146 million, or 90 percent, of the company's total gross profit growth in fiscal year 2009. Software Revenue and Units GameStop is primarily a software distribution business, so we should examine its software sales figures closely. Last year when we looked at new and used software revenue figures (the latter of which are our estimates, since GameStop doesn't break out used software sales separately in its filings) it looked like software revenue was increasing significantly each year. The updated figure, shown below, makes it clear that the situation for new software changed in 2009. Whereas new software revenue increased by a staggering 32 percent from 2007 to 2008, the same segment saw a much more modest 1.2 percent increase from 2008 to 2009. Given that software sales took a hit globally last year, it is no surprise that a major videogame retailer like GameStop was similarly affected. GameStop's used software business acts as a buffer in tight times, and 2009 was no exception. While The company does not provide explicit used software revenue figures we estimate that 80 percent of the revenue reported in its Used Product segment can be attributed to used software specifically. The figure above reflects this estimate. (Our choice of 80 percent is based on the known ratio for new hardware and software and conversations with professionals on the industry. We feel it is a conservative estimate – that is, it underestimates the revenue attributable to used software.) Since 2002, GameStop has reported the average price of new and used software for each fiscal year. Those figures are given in the figure below. According to these figures, the average price of a new game sold by GameStop in FY2009 increased approximately $2 from the previous year. Given that significant increase and the very modest increase in new software revenue, we can infer that GameStop sold fewer new software units in 2009 than it did in 2008. According to figures provided by the NPD Group and Michael Pachter, the average price of new software in the United States during GameStop's FY2009 was just below $40. While the comparison is not direct, it does appear that GameStop's software mix trends toward the higher end. However, we note that some of the higher price may have to do with the higher prices for software in Europe and other markets, or on favorable currency conversion rates for revenue generated outside the U.S. Putting the data from the last two figures together, we obtained the following estimates for GameStop's software unit sales, shown below. As mentioned above, we see that GameStop's new software unit sales actually declined in the last year. Last year when we examined the comparable figure we noted in our hypothesis that new and used software unit sales would be closer during the beginning of a hardware generation and then grow apart as the market was flush with used software. The figures shown above appear to bear out this hypothesis. GameStop itself notes this, saying that the increase in used product sales can be attributed “primarily due to the continued expansion of the installed base of new video game consoles and the availability of used hardware and software from those consoles.” According to our estimates, GameStop sold five used titles for each four new ones that it sold in FY2009. The ratio was 1 to 1 in the prior year.