The future of Game Group, the second largest specialist video game retailer globally, and the largest in Western Europe, has become increasingly uncertain. The company has recently put out a statement confirming it is looking for a buyer and is widely expected to enter the formal bankruptcy process anytime soon. The video games retailer has had difficulties adapting to the changes affecting the broader media products channel as a whole, losing sales to digital downloads and struggling to maintain its margins in the wake of aggressive pricing from grocery retailers.
Game Group operates 1,313 outlets across the UK, Ireland, France, Spain, Portugal, Australia, the Czech Republic and the Nordic countries. For its financial year ending January 2011, the UK-based retailer reported revenues of US$2.5 billion excluding VAT. The largest portion of its sales came from the UK (US$1.4 billion excl VAT). Game Group was the third largest media products retailer in the UK in 2011, behind book retailer WH Smith and multimedia specialist HMV.
Poor video game sales in Q4 2011 a catalyst for the Game Group’s demise
The winds have changed quickly for the Game Group. In 2010, the retailer posted a net profit of US$24.7 million (£15.6 million) on revenues of US$2.7 billion (£1.6 billion). This marked a steep decline from the previous year when the company earned US$97.7 million (£60.5 million) on revenues of US$2.9 billion (£1.8 billion), but its management remained optimistic about the company’s ability to adapt to the changes in the video products retailing landscape, in particular counting on Game’s increasing focus on growing its “digital” sales. Game started selling Xbox Live and PlayStation Network cards and selected digital games downloads through its stores in summer 2011 and also partnered Gaikai to offer on-demand game demo streaming on its website. However, these changes came too late for the company to ascertain whether they could safeguard the company from declining sales of boxed video games.
The nature of video games retailing, and retailing in general, is that companies frequently operate on a sub 5% net profit margin on revenue, and even a slight decline in revenues can amplify the losses, leading to a rapid downward spiral. This is exactly what happened to Game Group in 2011. UK boxed video games market has declined for the 3rd year in a row in 2011, suffering from lower demand inherent in the late console cycle as well as poor economy making many consumers to think twice before splashing out US$60 (£40) on a new game. In particular, Christmas sales turned out to be far worse than expected, and became the catalyst for the current retailer troubles.
Video game sales in Q4 account for more than 50% of annual sales, and because of the highly seasonal nature of the industry many video games retailers incur losses for nine months of the year, expecting to make a profit during the last quarter. However, this did not happen for Game in 2011. Poor Christmas sales meant that the retailer did not achieve a profitable Q4, and that in turn has meant that it has become very difficult to persuade lenders to finance another nine months of losses while hoping for a better Christmas this year.
Failure to adapt to digital downloads and price pressure from grocery retailers
However, poor game sales during Q4 2011 were just the tip of the iceberg, masking the broader structural issues with the Game’s business model. Revenues of media product stores, including the Game Group, have been in decline for a number of years now, and this trend is evident across the majority of countries, with certain exceptions in emerging markets such as Brazil or Indonesia. The channel has suffered from the shift from the physical retail of boxed CDs or DVDs to digital downloads, such as Xbox Live or Steam in video games or iTunes in music video. This has left the market size for boxed software on decline. In addition, a number of grocery retailers such as Tesco and Wal-Mart have started to sell more media products, offering discounted prices on big game releases to lure consumers into stores.
Video game specialist retailers have had their niche in pre-owned game sale for a while, buying back used video games and reselling them again. The pre-owned was Game Group’s most profitable segment, with gross margins close to 40%, compared to only 20% in new hardware and software sales. However, grocery retailers have moved into the pre-owned video games arena over 2010/2011 as well, increasingly constraining the video game specialists. For grocery retailers, media products are only part of the plan how to get a customer into the store, and they can afford to take a loss on some items, hoping to offset the losses with other sales. Game specialists, on the flipside, do not have this flexibility, but are forced to match grocery prices to keep the customers coming.
Percentage Share of Media Product Stores in Video Games over 2005-2010, Rsp
Source: Euromonitor International
Lessons to be learnt from GameStop
GameStop, the US-based largest global video games specialist, has been more successful in competing with grocery retailers and diversifying into digital sales. In 2011, GameStop bought Impulse, a direct download site, making a move into digital downloads. In addition, it has better managed to keep the likes of Wal-Mart and Target at bay, maintaining its status as a favourite destination to purchase or trade-in video games.
GameStop owns Game Informer, the largest video games magazine in the world by circulation, which has helped them to stay in-touch with the video gamer population. This connection with consumers has been instrumental in better shielding GameStop from grocery retailers. Its pre-owned business, for example, has coped better with the arrival of Wal-Mart into pre-owned games market than Game has with Tesco and Asda (owned by Wal-Mart), both of which now have fairly successful trade-in sections. Wall-Mart has not been able to draw enough gamers into its stores to run a viable trade-in model, and instead relies on purchasing pre-owned games from other sources rather than buying them from gamers.
However, even GameStop has had difficulties reassuring investors its business model is sound. Despite the retailer’s incremental rise in sales since 2008 and its ability to maintain a profit during all quarters of the year, which is rather unusual in this industry, its stock price has dropped by 62% from its 2007 high, reflecting investor concerns.
Future for media product stores uncertain
The shift towards digital downloads is likely to continue, and various publishers anticipate video games could reach approx. 50/50 split between boxed and digital downloads over the next 3-5 years. Preliminary findings from Euromonitor International’s Toys and Games 2012 edition research indicates that digital sales already accounted for almost half of PC game value sales globally, thanks to the popularity of Steam, and publisher owned stores, such as Origin and Battle.Net.
Consoles games remain more dependent on the boxed games model to drive sales, but they are also moving to digital downloads, albeit at slower rate. The change can accelerate with the next Xbox console release expected in late 2013 which is rumoured to come without an optical game drive altogether, suggesting a stronger focus from Microsoft to encourage purchases through its Xbox Live digital sales platform. While this does not rule out the possibility that Xbox will contain some form of replaceable media hardware, such as a USB card or a cartridge, it does signal difficult times ahead for specialist retailers nevertheless.
There is also a possibility that more publishers will open their own single brand stores. EA has opened its first own video game stores in the US, and if the concept proves to be successful, other publishers may follow suit. Single brand stores allow the publisher to raise the profile of their upcoming games by in-store promotion and fan events. Such events are becoming increasingly important in light of video games industry moving to higher and higher budget AAA titles, such as Battlefield or Call of Duty, and marketing is especially important to build up anticipation for such releases.