According to the Entertainment Software Association (ESA), “no other sector [in the United States Economy] has experienced the same explosive growth as the computer and video game industry.” In their demographic study of the video game industry, the ESA reports 58% of Americans play video games and 51% of American households own a game console (many of which own more than one). Thus, it comes as no surprise that the GameStop Corporation (NYSE: GME), the largest physical retailer of video games in the United States and a component of the S&P 500 index, has experienced tremendous success over the last ten years. GameStop currently operates 6,700 stores internationally, three E-Commerce websites, and its own magazine. Furthermore, GameStop has become the main physical retailer of video games, as its loyalty program, PowerUp Rewards, has over 31 million members. However, since the beginning of 2014 GameStop’s stock price is down 13%, with the company recently missing sales and earnings expectations, leaving investors puzzled as to why the company is struggling in a thriving industry. In this article I will examine the contributing factors to GameStop’s troubles, while also outlining potential strategies for GameStop to adapt and realign itself with the continued success of the video game industry.

The GameStop Corporation has two main obstacles blocking its return to the top of the gaming sector. The first is newly introduced competition, from Wal-Mart (NYSE: WMT), in the pre-owned game market. Wal-Mart recently announced that “customers will be able to trade in their video games and apply the value immediately towards the purchase of anything sold at Walmart and Sam’s Club, both in stores and online.” The pre-owned games market is worth an estimated $2 billion that has been monopolized by GameStop. So much so that GameStop’s pre-owned game sales have a high margin of nearly 50% and are responsible for about 30% of revenues and half of gross profits. However, Wal-Mart may be able to attract consumers who want to trade in their games for store credit to buy things not offered at GameStop, such as groceries. Wal-Mart is also a threat due to the high capital the company has available to purchase, refurbish, and resell used video games and consoles. The announcement of Wal-Mart's trade-in program undoubtedly relates to the recent dip in GameStop’s stock price. However, GameStop has alternative resources to overcome Wal-Mart’s intrusion. Firstly, GameStop holds tremendous market share in the video game industry. The 31 million members of the PowerUp Rewards program are given unique discounts, and other offers, that keep them loyal to GameStop. Secondly, GameStop has already successfully warded off competition in the trade-in market from a large retailer, Best Buy (NYSE: BBY). After launching, Best Buy’s gaming program failed to succeed because of GameStop’s reaction, its introduction of cell phones and tablets to the pre-owned marketplace. Ultimately, like Best Buy, Wal-Mart poses a serious threat to GameStop; yet, the company’s loyal customer base should allow GameStop to maintain control of the extremely profitable pre-owned video game market.

The second obstacle hindering the success of GameStop is a market demand shift from physical to digital media. Over the past five years, there has been a significant change in how consumers purchase and store media. With the introduction of cloud storage, and the success of digital media outlets such as Amazon (NASDAQ: AMZN) and Netflix (NASDAQ: NFLX), many consumers are ditching physical retailers to buy music, movies, and television shows from the comfort of their couches. The failure of physical retailers to adapt to this change has been catastrophic for some companies. For example, Blockbuster famously collapsed after declining several offers to buy Netflix for a mere $50 million back in 2000. Blockbuster is now bankrupt, and Netflix is worth over $20 billion. Many analysts believe that video games, much like movies and television shows, are the next part of this transition from physical to digital media (and that GameStop could be the next Blockbuster). I do agree with analysts in that video game retail is definitely trending towards the digital realm; however, I do not believe that GameStop is destined to fail. That said, GameStop will continue to face fierce competition from its counterparts. Electronic Arts Inc. (NASDAQ: EA) and Activision Blizzard Inc. (NASDAQ: ATVI) have both also established digital marketplaces of their own. Furthermore, Sony’s (NYSE: SNE) and Microsoft’s (NASDAQ: MSFT) newest generation consoles offer pre-installed online stores that allow users to purchase and download most titles directly to their systems. Thus, gamers are finding fewer and fewer reasons to leave the house in order to buy video games.

I believe that the future success of GameStop relies upon its loyalty program. As I stated earlier, members of the PowerUp Rewards program are presented with special offers that entice them back to GameStop stores, mainly better rates on trade-ins. PowerUp members receive more store credit for trading in their pre-owned games and consoles, as well as lower prices when purchasing pre-owned products. Additionally, members receive special deals on new releases when trading in pre-owned games. GameStop also presents its customers with a number of unique bonuses for pre-ordering games in-store. Gamers can unlock special characters, maps, and abilities that are only available if they pre-order a copy of the game at GameStop. Furthermore, GameStop is also the sole provider of “Collector’s Edition” titles. These rewards are catered towards competitive gamers who buy more games than casual gamers. Keeping these gamers loyal to GameStop has been essential to its past success, and will be essential to its future.

GameStop must find new ways to increase the number of PowerUp Rewards members. I believe that due to the high margins on pre-owned products, GameStop can afford to offer larger discounts to its loyal customers. In turn, GameStop will ensure that its 31 million members of the PowerUp rewards program continue to shop at GameStop. Regardless, the future success of GameStop depends upon improving its business model. GameStop must innovate and adapt to the market in order to encourage customers to continue their buying and selling of games, while also finding new ways to maintain its crucial customer loyalty program.