On April 1, 2011, GameStop conducted its first-ever investor conference near its Grapevine,
Texas headquarters. We were unable to attend the conference live, but listened via webcast. In addition,
the company made available its 80-page slide presentation. We believe the conference had a favorable
impact on investor sentiment. A deep, senior level management team participated, including recent hires,
and insight on the company’s digital sales strategies was encouraging, in our view. In sum, we believe
the trend of digital sales has evolved from perceived threat to attractive opportunity for the videogame
industry’s largest retailer. Below are some highlights from the slide presentation.
x Management recognized a changing industry landscape in 2008 and began developing business
plans related to downloadable content, customer loyalty program, and e-commerce.
x The global gaming market is estimated to grow about 6% annually through 2014.
x Greater efficiencies could result from selected closing of overlapping retail stores that resulted
from past acquisitions.
x New stores in underserved markets have relatively flexible leases and generate strong returns.
x International operations have recently improved and much opportunity exists for adding stores in
high growth markets and closing stores in underperforming markets.
x Compounded annual growth for worldwide industry digital sales is expected at about 15%
through 2014. GME expects its total digital sales to grow at more than twice this rate.
x Digital opportunities include sale of videogame content at GameStop.com, downloadable content
via in-store kiosks, full-game PC downloads, and digital issues of Game Informer magazine.
x Recent acquisitions should boost GME’s digital capabilities: Spawn Labs owns patented
technology for digital streaming of videogames and Impulse, Inc. has a digital distribution
platform that specializes in downloading of games to Internet-connected devices.
x Opportunities exist in the high-margin pre-owned business, as currently less than half of
customers are buying used games and less than 20% are trading in (selling) games.
x The PowerUp customer loyalty program was recently launched and has already grown to over 8
million members; management expects 12-15 million by the end of 2011.
x PowerUp members are spending more than 3x the amount of non-members; members have listed
over 90 million games they own, which helps GME in terms of selling downloadable content for
certain games or boosting its pre-owned game business by means of targeted marketing.
x Higher earnings and lower capital spending needs should boost free cash flow by 10% in 2011;
debt retirement and stock buybacks may continue, as could acquisitions.
x Earnings growth could come from continued expansion of the PowerUp loyalty program, market
share gains, same-store sales growth at retail stores, greater profitability of store base from
strategic downsizing, growth of digital revenue streams, and utilization of free cash flow.
OUTLOOK
Despite an uncertain consumer spending environment, recent sluggishness in industry sales, and
investment community concerns regarding digital sales of videogames, GME management has painted a
relatively bright picture for the current fiscal year. The company’s packaged good segment seems to have
firmed up and numerous high-profile releases are slated for the coming quarters. Over the past year, the
company’s share of such releases has increased due to strong marketing campaigns and coordinated
efforts from the major publishers. The PowerUp customer loyalty program has exceeded expectations
and holds much potential, in our view. Finally, the company seems to be a key participant in the industry
trend toward digital sales of videogames, rather than a potential victim. We expect the digital business to
grow over 50% annually in the near term, with the packaged goods segment holding steady.
GME shares are trading at 9.3 times our FY11 EPS projection of $2.84, a higher valuation than
earlier this year or much of last year. GME’s forward price/earnings multiple has been in the range of
roughly 7 to 35 over the past five years, with an average multiple of about 11.5. We attribute GME’s
relatively low valuation to several factors, including recent industry sluggishness, the potential impact of
competitive entry (such as the used game business), and long-term risks associated with distribution of
videogames. While the current multiple still seems relatively low, we believe considerable share price
appreciation this year has reduced the stock’s near-term attractiveness.
With recent considerable share price gains, our former price target of $27 was nearly realized.
This target reflected a price/earnings multiple of 9.0 applied to our preliminary FY12 EPS estimate of
$3.00. This is above recent valuations as low as 7 times estimated forward earnings. Although the stock
valuation has some appeal to us, we believe a favorable earnings outlook and improving digital prospects
are largely factored in the current price. With our price target essentially realized (much earlier than we
expected), we are inclined to move to the sidelines for now as we believe the shares could be susceptible
to some profit-taking from shorter term investors. We could reinstate our purchase recommendation on a
potential pullback in the share price, assuming no change in company fundamentals.
Among concerns frequently raised by the investment community are competitive entry to the
used game business and digital downloading of content by consumers. While new entrants to the used
game business over the past year or so have raised some concern among investors, we feel GME has
competitive advantages such as those related to inventory, pricing acumen, employee expertise, and
marketing. To date, management has not seen an adverse impact on its stores from competitive entry into
the used gaming sector. Digital distribution of videogames is likely to continue growing, but we believe
GameStop has been pro-active in developing a digital sales strategy that seems, at this early juncture, to
be effective.
Other risk factors associated with investments in GameStop include changes or delays in
publishers’ product release schedules; relationships with and adequate supply from publishers,
distributors, and hardware manufacturers; lease terms for stores; cyclicality of industry sales;
macroeconomic risk; seasonality or dependence on holiday sales; ability to negotiate and integrate
acquisitions; and geopolitical risks to international operations.
Our Suitability rating on GME is 3 on a 1-to-4 scale (1=most conservative, 4=most aggressive),
and is primarily based on these factors.
Total Sales 7,093,962 8,805,897 1,980,753 1,738,504 1,834,727 3,524,013 9,077,997 2,082,697 1,799,093 1,899,152 3,692,800 9,473,742 10,060,000
Cost of Sales 5,280,255 6,535,762 1,438,640 1,243,098 1,311,643 2,649,964 6,643,345 1,511,916 1,282,267 1,352,835 2,789,100 6,936,118 7,376,000
GameStop Corp.
Gross Profit 1,813,707 2,270,135 542,113 495,406 523,084 874,049 2,434,652 570,781 516,826 546,317 903,700 2,537,624 2,684,000
SG&A Exp. 1,182,016 1,445,419 375,832 384,773 391,210 483,309 1,635,124 403,836 404,964 408,854 482,700 1,700,354 1,834,000
EBITDA 631,691 824,716 166,281 110,633 131,874 390,740 799,528 166,945 111,862 137,463 421,000 837,270 850,000
Depreciation and Amortization 130,270 145,004 37,827 39,677 41,605 43,386 162,495 42,513 42,235 44,670 45,300 174,718 185,000
Operating Income 501,421 679,712 128,454 70,956 90,269 347,354 637,033 124,432 69,627 92,793 375,700 662,552 665,000
Diluted EPS $1.80 $2.40 $0.43 $0.23 $0.32 $1.29 $2.27 $0.48 $0.26 $0.38 $1.56 $2.67 $2.84
Avg. Diluted Shares Outst. 164,844 167,671 167,972 167,857 168,113 167,556 167,875 156,484 154,154 153,276 152,100 154,000 145,000
4
Stores - end of period 5,264 6,207 6,245 6,333 6,391 6,450 6,450 6,486 6,549 6,606 6,670 6,670 6,675
Yr-over-yr store count % chg. 10.2% 17.9% 14.5% 14.0% 11.5% 3.9% 3.9% 3.9% 3.4% 3.4% 3.4% 3.4% 0.1%
Comparable-store sales % chg. 24.7% 12.3% (1.5%) (14.1%) (7.8%) (7.9%) (7.9%) (1.6%) 0.9% 1.1% 2.6% 1.1% 3.8%
% of Sales:
Gross Profit 25.57% 25.78% 27.37% 28.50% 28.51% 24.80% 26.82% 27.41% 28.73% 28.77% 24.47% 26.79% 26.68%
SG&A Exp. 16.66% 16.41% 18.97% 22.13% 21.32% 13.71% 18.01% 19.39% 22.51% 21.53% 13.07% 17.95% 18.23%
EBITDA 8.90% 9.37% 8.39% 6.36% 7.19% 11.09% 8.81% 8.02% 6.22% 7.24% 11.40% 8.84% 8.45%
Operating Income 7.07% 7.72% 6.49% 4.08% 4.92% 9.86% 7.02% 5.97% 3.87% 4.89% 10.17% 6.99% 6.61%
Net Income 4.19% 4.57% 3.64% 2.23% 2.93% 6.13% 4.19% 3.61% 2.24% 3.08% 6.44% 4.35% 4.09%
Tax Rate 34.56% 37.23% 38.19% 35.18% 32.58% 36.50% 36.17% 34.84% 33.16% 30.13% 35.68% 34.55% 36.00%
% Year-Over-Year Change
Total Sales 33.37% 24.13% 9.22% (3.65%) 8.20% 0.91% 3.09% 5.15% 3.49% 3.51% 4.79% 4.36% 6.19%
Cost of Sales 37.24% 23.78% 7.34% (5.85%) 7.31% (0.11%) 1.65% 5.09% 3.15% 3.14% 5.25% 4.41% 6.34%
SG&A Exp. 18.19% 22.28% 14.35% 10.65% 16.53% 11.55% 13.12% 7.45% 5.25% 4.51% (0.13%) 3.99% 7.86%
EBITDA 134.03% 30.56% 14.88% (18.88%) (4.24%) (3.73%) (3.05%) 0.40% 1.11% 4.24% 7.74% 4.72% 1.52%
Operating Income 38.73% 35.56% 16.88% (29.09%) (11.45%) (5.56%) (6.28%) (3.13%) (1.87%) 2.80% 8.16% 4.01% 0.37%
Net Income 59.60% 35.50% 13.81% (32.33%) (5.99%) (3.81%) (5.39%) 4.16% 4.29% 8.68% 10.92% 8.63% 0.24%
Source: GameStop and Hilliard Lyons estimates Note: Fiscal year ends on Saturday closest to Jan. 31
April 21, 2011
Analyst Certification
I, Jeffrey S. Thomison, hereby certify that the views expressed in this research report accurately reflect
my personal views about the subject company(ies) and its (their) securities. I also certify that I have not
been, am not, and will not be receiving direct or indirect compensation in exchange for expressing the
specific recommendation(s) in this report.
Important Disclosures
Hilliard Lyons' analysts receive bonus compensation based on Hilliard Lyons’ profitability. They do not
receive direct payments from investment banking activity.
Investment Ratings
Buy - We believe the stock has significant total return potential in the coming 12 months.
Long-term Buy - We believe the stock is an above average holding in its sector, and expect solid returns
to be realized over a longer time frame than our Buy rated issues.
Neutral - We believe the stock is an average holding in its sector, is currently fully valued, and may be
used as a source of funds if better opportunities arise.
Underperform - We believe the stock is vulnerable to a price set back in the next 12 months.
Suitability Ratings
1 - A large cap, core holding with a solid history
2 - A historically secure company which could be cyclical, has a shorter history than a "1" or is subject to
event driven setbacks
3 - An above average risk/reward ratio could be due to small size, lack of product diversity, sporadic
earnings or high leverage
4 - Speculative, due to small size, inconsistent profitability, erratic revenue, volatility, low trading volume
or a narrow customer or product base
Note: Price targets accompanying Buy ratings reflect a one year time period while price targets accompanying Long-term Buy
ratings reflect a two to three year time period.
Other Disclosures
Opinions expressed are subject to change without notice and do not take into account the particular
investment objectives, financial situation or needs of individual investors. Employees of J.J.B. Hilliard,
W.L. Lyons, LLC or its affiliates may, at times, release written or oral commentary, technical analysis or
trading strategies that differ from the opinions expressed here.
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