The moment of truth is now a closing bell away for GameStop (NYSE:GME). The struggling retailer with a buoyant share price reports its fiscal fourth-quarter results at the end of Tuesday’s trading. The look back won’t be pretty. The look ahead will have to be everything.
There’s been a lot of buzz swirling since the mother of all short squeezes in late January. Just when it seemed as if the party was over, with the stock falling 90% from its frenzied highs and volume drying up, GameStop speculators got their second wind. Will this second rally gain momentum? There’s a lot to prove heading into the telltale financial update. Let’s go over some of the reasons the market reaction might not be pretty.
1. The air is getting thin as the stock got thick
A lot has happened since the last time GameStop discussed quarterly results. The stock closed at $16.95 moments before the video game retailer announced its fresh financials on Dec. 8. The market didn’t like it, sending GameStop stock 19% lower the next day. The stock has been a 14-bagger since then through Monday’s close.
Fundamentally speaking, some things have only gotten worse since early December, with the stock in the low teens. Three months ago, analysts thought GameStop would be earning $1.66 a share for the seasonally potent holiday quarter. The consensus now is a profit of $1.35 a share.
GameStop was upbeat about how its fiscal fourth quarter ending in January was starting. Comps had risen an eye-popping 16.5% in November, fueled by big-ticket sales of new PS5 consoles. A month later, GameStop’s quarter-to-date comps had slipped to a 4.8% advance through the nine-week holiday period including the double-digit spike in November. January probably wasn’t much better than December.
There have been positive developments. Activist investors have stepped up their efforts, including the launch of a Strategic Planning and Capital Allocation Committee that could bear fruit over time. One can also argue that GameStop’s emergence as a meme stock has helped drum up brand awareness, stirring up incremental sales. For now, sales and profit forecasts have been heading lower for the fourth quarter even as the stock has shot higher.
2. A bottom-line miss wouldn’t be a surprise
We’ve already covered how Wall Street pros have been hosing down their profit expectations as the quarter played out, and that’s not a good sign. Another problematic trend is that analysts have overestimated GameStop’s bottom-line performance in two of the past three quarters.
It’s also worth noting that margins aren’t likely to be very exciting. GameStop’s model is pretty simple. New hardware has historically been its lowest-margin category. New software is a bit higher in the margin food chain. GameStop’s beefiest markups have always been the secondhand games and gear that it buys from gamers for pennies on the dollar, but that’s a fading niche in a digital future. With so much riding on low-margin PS5 sales in the fiscal fourth quarter, it wouldn’t be a shock if it earns less than the $1.35 a share that the market’s expecting.
3. Earlier rally catalysts are harder to find
It was the perfect storm for GameStop’s initial rally in late January. There were more shares sold short than there were in the public float, setting up the mother of all short squeezes. Hedge funds were cocky. The bulls were the underdogs. It was a fuse waiting to be lit by young speculators with a sense for gaming nostalgia.
But it’s a different scene these days. Short interest has fallen to 20% of the outstanding share count. Hedge funds have been humbled. GameStop stock is one of this year’s biggest winners. It has a wet fuse.
The report will be rough. Comps will be positive only because the surge in e-commerce is being divided into fewer stores, with roughly 11% fewer units open than a year earlier. The bottom line isn’t likely to be very exciting, either. A lot is hanging on how rosy a scenario it can present to investors, but it’s going to take a lot of bright hues for a stock that has popped 14-fold since its last report.
This article represents the opinion of the writer, who may disagree with the “official” recommendation position of a Motley Fool premium advisory service. We’re motley! Questioning an investing thesis — even one of our own — helps us all think critically about investing and make decisions that help us become smarter, happier, and richer.
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