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Why GameStop’s Tech Brands segment is a future growth driver

Stilian Morrison of Interactive Buyside

Assessing GameStop as an interesting investment opportunity (Part 3 of 5)

(Continued from Part 2)

Tech Brands market overview

An aspect of the equity upside in GameStope (GME) is the company’s expansive push in its Tech Brands segment. Management devoted a substantial portion of its most recent investor day to addressing the market potential herein. Indeed, the various sectors and sub-segments, most notably re-commerce, are capably positioned for robust growth as mobile phone cycles. Re-commerce, while a much smaller market, is growing rapidly and is very much analogous to the trade-in business model of the used game market, GME’s hallmark sector.

In targeting these verticals, management has sought to make Tech Brands at least 10% of consolidated earnings by FY 2016 through expansion to 1,000 stores. Excluding the Apple (AAPL) ecosystem (Simply Mac), whose (10% of Tech Brands) stores require ~$175K in capex , the majority of the segment’s units require on average half the capex dollars of GameStop video game stores. Contributions margins at the ATT (T) (Spring Mobile), currently 75% of Tech Brand footprint, are relatively close in dollar terms to the flagship video game units.

The Market Realist Take

At GameStop’s 2014 investor day in April, the company said that although its core business of retailing physical and digital games is poised to grow, it’s diversifying into new “addressable markets.” GameStop said in its annual report for 2013 that it pursued three business opportunities last year. These opportunities let the company enter the $185 billion U.S. wireless and $208 billion global consumer electronics markets.

GameStop acquired Spring Mobile, an authorized AT&T dealer of wireless services based in Salt Lake City and a fast-growing operator with 164 stores in 13 states. GameStop also entered into a strategic dealer agreement with Cricket Wireless, a subsidiary of AT&T (T) that offers value-conscious consumers a pre-paid wireless experience without annual contracts. Plus, in 2013, GameStop completed its acquisition of Simply Mac, the largest certified specialist of Apple’s full line of products with 23 stores across the U.S.

The company called its plans “GameStop 3.0.” GameStop expects to shut down around 120 to 130 of its retail stores by the end of this fiscal year. But at the same time, it will expand its Spring Mobile and Simply Mac outlets.

CEO Paul Raines was upbeat about the company’s expansion in the $50 billion–$55 billion “Apple ecosystem” market, saying “We have spent a lot of time in Cupertino with Apple (AAPL) leadership and we have their support to grow Simply Mac.”

Raines further said, “The buy/sell/trade model has potential applications for all of these markets… We were early on in seeing the potential for buy/sell/trade of phones and tablets and have by far the largest in-store presence in this category, and we expect to grow with the market.”

The company’s annual report noted, “Looking ahead to the next chapter of GameStop’s growth, we have studied the ways in which technology products are distributed to consumers outside the gaming space and believe synergies exist with our model. We believe it is important to drive a high rate of internal change to adapt and meet the changing needs of our customers.”

Mobile and consumer electronics sales increased 100.4% year-over-year in 1Q 2014 to $102.2 million. This rise was due to the Technology Brands stores acquired or opened. GameStop noted in its 10Q , “During the first quarter of fiscal 2014, in connection with the continued expansion of the Technology Brands business, Spring Mobile acquired five AT&T resellers, which operated a total of 36 stores as of May 3, 2014, for total consideration of $29.8 million. We continue to seek out opportunities to extend our core competencies to other products and retail categories in order to continue to grow and to help mitigate the financial impact from the cyclical nature of the video game console cycle.”

The company further said, “As a result of our acquisition activity in the Technology Brands segment over the past two fiscal quarters, we are currently experiencing higher gross margins in that segment in comparison to the margins in our Video Game Brands segments, which has had the impact of offsetting potential margin erosion associated with the recent launch of the current generation video game consoles.”

NPD data pointed out that spending on video games is rising. These trends will benefit Gamestop and its peers in the electronic retail space, including Best Buy (BBY), RadioShack (RSH), Amazon.com (AMZN), and Wal-Mart Stores (WMT) .

Continue to Part 4

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