Final Trade Detail
- The 9% dividend is only safe if Gamestop can maintain its current free cash flow projections ($300 million)
- Gamestop has been exploring potential transactions since June 2018. We are not confident in management's ability to secure a deal.
Let’s address the elephant in the room. Is GameStop’s 9% dividend yield sustainable? In short, yes. There’s no immediate threat to GameStop’s ability to pay its dividend.
GameStop is expecting free cash flow of $300 million for 2018. The dividend will cost approximately $150 million in 2018, leaving plenty of cushion to maintain its current annual dividend. The company’s nearest debt maturity is a $325 million loan that doesn’t come payable until October 2019.
In theory, the news gets even better for GameStop. Management released a statement in June 2018 announcing the company was “in exploratory talks with third parties regarding a potential transaction.”
Here’s the problem: Gamestop’s management has no answer for the growing competition threatening nearly every source of revenue. In the most recent quarter, new hardware sales decreased 7.9% while new software sales decreased 10.3%. The one upbeat note for the quarter was its collectibles segment where its sales grew by 24%. It’s a growing segment albeit a much smaller percentage of total revenue. Put this all together and you have an ugly financial outlook for GameStop.
Let’s revisit that statement regarding the company’s plans to seek a potential transaction. GameStop has over 7,000 stores that have proven they cannot grow sales, and are merely capable of selling stuffed collectibles. What about eSports? While eSports has exploded in recent years, GameStop has remained on the sidelines. Why? It’s simple. Video game software went digital and GameStop is on the outside looking in.
Private equity firms can’t possibly look past: 1) rising interest rates; 2) slowing debt issuance; 3) an unstable retail landscape facing significant challenges; and 4) a company who’s business model is morphing into Toys ‘R’ Us. There’s always a chance for one private equity firm to see past these challenges, focusing instead on the growth in eSports. We find this to be a very unlikely scenario given the many ways to enter eSports without burdening yourself with 7,000 retail locations.
While we expect GameStop to continue paying its dividend for the next few quarters, the outlook is downright ugly. We recommend buying long-term puts (2020) to take advantage of the inevitable crash. If you own shares…prepare yourself for a turbulent ride.