Despite their already low expectations, investors in GameStop (GME -0.68%) were surprised to learn about the scale of its struggles when the company posted its second-quarter earnings report on Wednesday. Sales declines accelerated deeper into double-digit territory as demand slumped across the retailer's hardware and software offerings, including its pre-owned games segment.
In a conference call with Wall Street analysts, CEO George Sherman and his team had more bad news to report to shareholders about near-term growth, since industry trends will likely send sales falling for at least another year. Yet executives predicted rising profitability and improving cash flow ahead as key pillars of the company's turnaround plan.
Image source: Getty Images.
Things will get worse before they get better
We expect a percentage decline of comparable same-store sales for 2019 to be in the low teens, which includes a difficult comparable-sales challenge from last year as we are up against blockbuster titles like Red Dead Redemption 2, 2018's No. 1 volume title, without a comparable launch in 2019.
-- CFO James Bell
GameStop's 11% decline in comparable-store sales was worse than the prior quarter and missed management's expectations. Comments in the call suggest that investors can expect similarly brutal drops over the next six quarters, too.
Declines are partly due to the shift of gamer spending online, but the bigger factor is a new console generation in the works for 2020. Microsoft (MSFT -0.66%) and Sony (SONY -1.68%) confirmed the timing of their next-gen models earlier than they have in the past, management said, and that move is causing an immediate pullback on hardware and software spending by video game fans. It also implies a lighter release calendar over the next year or so as developers prepare for the shift.
Making hard choices
We are acting with a sense of urgency, making tough but necessary decisions and moving forward with the disciplined approach to deploying these strategies, which we believe will position GameStop to maximize shareholder value.
-- Bell
After adjusting for unusual charges, GameStop's expenses fell 4% this quarter, which is the first direct impact of management's cost-cutting program that started late in the quarter and is ramping up today. That initiative involves a wide range of moves such as reducing inventory, closing underperforming stores, and revamping the digital sales channel.
Executives are predicting improving profit margins despite the falling sales base, and the early cost trends suggest that this modest goal is achievable.
Earning back investors' trust
We are committed to taking quick and deliberate actions to improve the performance of the company and set it on the correct strategic path.
-- Sherman
Management highlighted a few moves it recently made aimed at shoring up investor returns, including cutting debt in half over the last six months, protecting gross profit margin, and slashing capital spending. The company is excited about the potential it sees to reduce the sales footprint, too -- for example, in markets that are served by several GameStop stores. A comprehensive inventory refresh that focuses more on high-margin, growing categories like accessories and collectibles should also help profitability trends while supporting the company's already strong cash flow.
Executives seem to understand that before investors can begin to share their excitement, there needs to be concrete evidence of these positive trends taking hold. Shareholders have been burned by unrealistically optimistic forecasts by GameStop over the past two years.
"We recognize that there was a need to rebuild credibility with the investment community," Sherman said. The retailer aims to take the first step toward winning back that trust by achieving the concrete financial objectives around margins, sales trends, and cash flow that it has laid out for 2019 and 2020.
