In 2015, the Financial Times joked that RadioShack, a sickly electronic chain of bricks and mortar, should consider selling fruit baskets or turning its stores into Zumba studios to survive. The retailer has ignored the threat of e-commerce for so long that few people believe it could survive. Two years later, RadioShack was virtually gone.
Source: TY Lim / Shutterstock.com
Today, GameStop (NYSE:GME) stock sits at a similar point. Since the early 2010s, GME’s top buyer has treated the retailer like a drink at an open bar, handing out a regal dividend to shareholders (and stock options for themselves) while cutting back on investment in older stores.
But then something happened: A group of retail investors, powered by Reddit’s hedge fund hatin ‘r / WallStreetBets, decided to take GME shares from $ 10 to $ 480 within a few weeks. The people still like GameStop!
This love of GameStop and contempt for Wall Street is an unusual combination. This means that, unlike RadioShack in 2015, the video game retailer still has a fighting chance. For the benefit of GameStop and its shareholders, Reddit investors need to complete the revolution they started. And if they do, Redditors and Tough (NYSE:CHWY) founder Ryan Cohen can still return GME shares to $ 500.
GME stock: deliberately driven into a ditch
Anyone who has recently visited a GameStop store will tell you the same thing: they look old. And it’s by design. GameStop’s management has been enriching shareholders for more than a decade at the expense of the business. GameStop’s capital spending, the budget used to maintain its stores, peaked at nearly $ 200 million in 2011 before being cut in favor of larger dividends and share repurchases. Meanwhile, the company’s stores were getting older, and the layoffs continued unabated.
Yet shareholders at the time allowed then-CEO J. Paul Raines to maintain the rate. Why? It made money for them. Customers, employees and other stakeholders were not a priority. And after several failed acquisitions, including game developer Kongregate, the management of GameStop decided to milk the company for cash.
The firm’s blind commitment to mediocrity culminated in the April 2020 strategy meeting. GameStop management has outlined a plan to ‘optimize the core’ and ‘become the social / cultural hub’ by building ‘experience laboratories’.
In other words, they wanted to drive more traffic to the store. During a pandemic year. (How on earth does management earn $ 35 million between them?)
Does the foot change? Redditors Think So.
This all started to change in August 2020, when Ryan Cohen, founder of Chewy, bought 9 million shares of the retailer. He and two associates would join the board later in January 2021.
“GameStop must evolve into a technology company that delights gamers and delivers extraordinary digital experiences – not a video game retailer that prioritizes its physical presence too much and stumbles upon the online ecosystem,” Cohen said in a public letter to the council. said .
Investors were delighted and initially sent shares from $ 4 to $ 40. Mr. Cohen did not just talk about improving e-commerce (a strategy that may have worked 15 years ago). Instead, he talked about fundamental changes to GameStop’s business that could create a new, trained player in the $ 180 billion gaming industry.
However, change cannot come easily. And this is where Reddit investors come in.
To date, Mr. Cohen only 13% of the company. This is not enough to disrupt GameStop’s existing board; As recently as last year, the board repelled another activist investor with big plans for change.
To be clear, there is nothing special about the current CEO, George Sherman, or his team. (Redditors, please do not send pizzas to his house at 01:00) Running a declining business is already difficult during good times and almost impossible during crises.
But to become an agent of change, Mr. Cohen needed more than his voice in the retailer for video games. He needs other investor support.
Reddit Investors, unite!
To date, Reddit investors have increased GME shares using a financial peculiarity known as delta-gamma hedging. This happens when many investors buy calls outside the money – the lottery tickets favored by the r / WallStreetBets crowd. And in one of Wall Street’s least understood processes, market makers will buy more GME shares to hedge their positions. This creates a feedback loop that causes prices to rise even higher.
But to reach GameStop $ 500 (and stay there), Redditors needs more than Wall Street’s quirks.
To do more, they need the four tools of activist investors: investing, strategizing, agitating and voting.
Activism Investment 101
There’s the obvious first step with activist investing: investors need to buy and hold GameStop shares. Options can make you rich, but only ordinary shareholders can vote at shareholders’ meetings.
Next, investors need to strategize what is best for GameStop. Sucking the lifeblood out of a dying company could make shareholders money, but it would not make GME a $ 35 billion business. No one will try to beat established players like Twitch or Valve on their own game. Instead, the winning strategies will involve identifying technologies for a decade and investing before others do. (A virtual reality universe, anyone?)
Third, shareholders need to make their voices heard – something that Redditors already looks good at. With a single well-worked public letter to the board (plus a back-room dissertation), Mr. Cohen in acquiring three board seats. Smaller investors may not have the same platform, but they can undoubtedly start pushing GME’s board to move faster.
And finally, shareholders must vote. Most investors usually contract votes to their brokers, who make annual meetings a rubber stamp test. But unless shareholders mr. Cohen comes to help, change will not come fast enough.
Time is short for GME stock
Reddit and Mr. Cohen will have to work fast. Thanks to their years of corporate debt, GameStop now has a 3.5x debt ratio. The retailer spends more than $ 300 million on interest, maintenance and rental costs, which will burn its $ 446 million cash surplus faster than most people expect.
Mr. Cohen presumably saw the writing on the wall. Without drastic changes, the chances of GameStop will melt away faster than the ice cone that Mr. Cohen het mysteriously posted on Twitter this week.
This is what makes the resignation of Chief Financial Officer Jim Bell so remarkable on Wednesday. It’s an essential first step to a turnaround to remove the rank of caretaker, and it looks like Cohen has pulled the board out of his slump. But more needs to happen. And Mr. Cohen needs your help, Reddit.
For GameStop to reach $ 500, the company will need a market capitalization of $ 35 billion, or more than the value of Twitch and Steam combined.
A secondary offer at $ 150 per share would be a start. A dilution of about 10% will yield $ 1 billion AMC Entertainment (NYSE:AMC) during its shareholding in January.
But money alone will not solve the decline of GameStop. The firm needs a new vision among its management ranks. Appointing a COO will be a good first step – the company has had no problem with one since 2019. It would be even better to map out a long-term strategy (and find the right person for the job).
In short, GameStop needs a strategy shift that should equalize Netflix’s (NASDAQ:NFLX) co-founder Reed Hastings nods approvingly.
Mr Cohen has previously worked on his magic on Chewy.com. And maybe he’s even the right person to take the top job at GameStop. But before he can start on the trail, the 35-year-old founder will need all the help he can get. And with a megaphone powered by Reddit, retail investors finally have the chance to make it happen.
Good luck, Redditors. I see you on the moon.
At the date of publication, Tom Yeung held no (direct or indirect) positions in the securities mentioned in this article.
Tom Yeung, CFA, is a registered investment advisor who wants to promote the simplicity of the investment world.