Is GameStop Stock A Sell?

GameStop Corp. (NYSE:GME) short sellers got squeezed in January 2021 while Tesla Inc (NASDAQ:TSLA) short seller David Einhorn had his best quarter ever. It started from a feud on subreddit WallStreetBets that brought the company back from the dead to a historic high market capitalization.

When the stock soared the question among shareholders was would it come back down to earth? Even without the short squeeze, is GameStop stock a Sell?

Institutional investors typically control a stock’s fate, as a whale like Warren Buffett, for example, can buy 100 million shares in a company and support share prices for some time. GameStop received something like the Buffett Effect, but it was closer to a million people buying 100 shares.

The company is stigmatizing among gamers who do end up selling gaming gear on the secondary market. The destruction of its market cap led to memes about its karma for paying you $1 for a $60 game.

Now it is the short sellers who are licking their wounds as a mob of Redditors celebrate their wins. But what lies ahead for this volatile share price?

Used Games Have Highest Margin

As the name implies, GameStop is a video game retailer. It sells both new and used games, and it’s the used games that have the highest margin. The company knows it’s easier to negotiate individual customers down than to convince a major company like EA or Nintendo to do it.

In fact, the company is notorious for 4x or higher markups between what it pays you for a game versus what it sells for. This becomes a problem when gamers get used to buying digital games, but that’s a discussion for the risks below.

Brick and mortar retail took a big hit during lockdowns, and GameStop faces stiff competition from online marketplaces like Steam. Its answer to concerns about profitability was to transform its stores into an experiential destination.

That was before the pandemic hit. That put it at a disadvantage until Chewy founder Ryan Cohen invested and joined GameStop’s board. Investors rallied around it, but it still held the attention of institutional short sellers.

An estimated 138 percent of the company’s shares were shorted at the start of the year. This created the perfect environment for a short squeeze.

That’s when the 2-million-member subreddit WallStreetBets stepped in. The group describes itself as “like 4chan found a Bloomberg terminal.”

Is GameStop Stock A Sell?

Andrew Left is the founder of Citron Research, activist investor, and short seller. When the stock climbed to elevated levels, he proudly tweeted a prediction about it dropping to $20 per share. Then the Redditors struck again, raising it above $60 per share for the first time in years. At the high, it reached $76.76.

On January 22, GameStop had ballooned so high so fast that trading was halted. By midday, the stock had risen by over 250 percent within a month. After the chaos, GameStop had a market capitalization around $4.5 billion, and it has little to do with its performance.

As a matter of fact, GameStop’s bottom line income was around $470.9 million. It ended that year with $2.28 billion in total assets.

Total sales were down 3.1 percent during the holiday season, as the company closed 11 percent of its retail stores. This equates to $1.77 billion in net sales for the nine-week period that ended January 2, 2021.

Until 2019, GameStop paid investors a dividend, and it was consistent about payments and increases. The final $0.38 quarterly dividend payment was in March 2019, and it’s unlikely to pick that payment back up any time soon, due to its cost cutting measures.

At this point, it’s unclear how long GME share price will remain elevated. It may be inflated, but it could stay that way for some time and even go up again. It’s the latest in a series of protests and counterprotests, and forums understand the power of numbers.

And this brings up the dangers of investing in GameStop.

Risks Of Buying GameStop Stock

The Reddit flame war highlights the risks of investing in stocks in a connected world. It’s an extension of the Robinhood Effect, in which a crowd of inexperienced retail investors pile into a stock based on its popularity on investment apps vs underlying business fundamentals.

In this case, social media sparked the modern version of what can be described as a virtual run on the bank – in reverse. There’s no telling exactly how high or for how long this group can keep the stock boosted. It’s the opposite of venture capitalism and the heart of what Wall Street was supposed to be about.

But can this group of Redditors really keep GameStop alive? And just how important is GameStop really to video game culture?

Both new and used video game retail are crowded markets these days, whether online or off.

Will GameStop Become Obsolete?

When GameStop was founded in 1984, it was one of a lot of necessary secondary retailers for physical media, like video games, CDs, and VHS tapes. Most of its competitors were killed by online retailers like Amazon and NewEgg.

Remember Wherehouse, Tower Records, Sam Goody, and Suncoast Video?

Besides the occasional regional champion like Bookmans in Arizona, most used media stores went out of business. Nintendo, Steam, Sony, and Microsoft encourage digital games that have no resell value. Pawn and thrift shops buy more than just this media, and the industry is shifting toward streaming.

GameStop could find itself cut out of the business like theaters featuring Hollywood flix during national lockdowns.

Is GameStop Stock A Sell? The Bottom Line

GameStop stock rose over 250 percent in January 2021 because of a flame war on Reddit. Retail investors took short sellers on and beat Wall Street short sellers. Scrolling through the subreddit feed, one gets the impression some of these investors plan to hold

But the stock is a war zone, and there’s no telling where it will be by the end of the year.

And beneath all the online vitriol lies a retail company that took a hit from retail closures. Its new business model depends on experiential retail, which isn’t easy in this economy. Meanwhile, it’s losing ground to traditional pawn and thrift shops on a shrinking market of physical media retail.

If these investors aren’t also customers, the short sellers may be right.

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The author has no position in any of the stocks mentioned. Financhill has a disclosure policy. This post may contain affiliate links or links from our sponsors.