GameStop Will Keep Falling If Profitability Does Not Improve this Quarter

GameStop (NYSE:GME) has taken a huge hit in the past month and a half since its earnings came out for the quarter ending Oct. 30. As of Jan. 28, GME stock is at $94.65 per share, down from $148.39 at the year-end and also from a recent peak of $247.55 on Nov. 22.

This means GME stock is now down 62% from the recent peak just 2 months ago, and also down 37% year-to-date. In other words, the stock is now in full deflation mode. Can it go lower?

In my last article on GME stock on Dec. 9, I wrote that it could still fall 10% to 20%. At the time, it was at $155.76 on Dec. 9. This means it has now fallen 40% since then, well more than I predicted.

But, unfortunately, I still think that it could fall further still. I will describe the reasons why in the rest of this article.

Where Things Stand at GameStop

Last quarter GameStop had very poor operating margins. They fell to negative 7.9% from negative 6.3% a year ago. Moreover, the margins were negative at -4.9% in Q2.

Moreover, its gross margin percentage of sales fell to 24.6% from 27.5% a year ago. In fact, last quarter ending July 31, its gross margin was higher at 27.1%. But pricing pressure and most likely higher shipping costs cut its margin from the high 20% to below 25%. That does not help its ongoing profitability.

In fact, at some point, GameStop has to get profitable. It may take this to happen before GME stock makes a major turnaround.

Where Analysts Stand

It’s not like Wall Street is really standing behind the company as well. In fact, Barron’s magazine wrote after their recent earnings release that several analysts were skeptical.

For example, one of those is Wedbush’s Michael Pachter. He has an ‘Underperform’ rating on the stock. Moreover, he cut his price target to $45 from $50. But this is still substantially lower than today’s price of $94.65 as of Jan. 28.

His argument can be seen in the title of his report, “Another Quarter, No Turnaround In Sight.” He argues that there is no “clarity” on the management’s digital transformation plans. He said their idea to potentially explore blockchain technology does not add up to a turnaround.

I also pointed out in my previous article that the company’s huge buildup in inventory this past quarter may not work out well. This could happen if demand over the next two quarters does not come in as expected, especially over the Christmas period. It was also very hard on the company’s cash and cash flow burn.

Moreover, analysts are all uniformly still negative on the price prospects for GME stock. For example, the average price target from 4 analysts surveyed by TipRanks.com is $34.00. That represents a 63% downturn in the stock from here.

The same thing is evident at both Seeking Alpha and Yahoo! Finance (which uses the Refinitive analyst survey data). For example, Seeking Alpha has a survey of 3 analysts with a price target of $34.00, implying a 63.6% downturn. Yahoo! Finance reports that 3 analysts have a $56.00 average price, or just 40% below today’s price.

Any way that you slice it, analysts are not impressed with GME stock.

What To Do

Whenever analysts are so one-sidedly negative on a stock, and I am not, I take the average or a probability-weighted average price target. But in this case, I see no reason to be as positive on GME stock anymore. I am not impressed with their earnings, and like the Wedbush analyst, I don’t see a turnaround plan yet.

Therefore, investors might do well to just wait for the stock price to continue to adjust downward. I am not recommending shorting the stock, but I can see how buying puts or shorting calls might make some sense here.

Mark Hake writes about personal finance on mrhake.medium.com and Newsbreak.com and runs the Total Yield Value Guide which you can review here.