Dear Chairman,
With the conclusion of the strategic review considering a possible sale of GameStop, I believe it
GameStop as a company is at a crossroads and you will likely have many stakeholders trying to sway your actions at this time. I want it to be clear that you have many shareholders, including myself, who are interested in positive long-term outcomes for this company. Your goal should not be to meet specific quarterly earnings or even to provide and hit regular earnings guidance. Your goal should be to focus on improving the long-term health of the company while not squandering the large amount of cash currently on your balance sheet.
In my eyes, GameStop’s future capital allocation decisions should be very simple and straightforward. There is no need to make this situation more complex than it needs to be. I believe the most shareholder-friendly strategy is also the strategy that is best for the employees of GameStop and the long-term health of the business. I propose three main uses for this capital.
- Use the sale proceeds from Spring Mobile to completely wipe out ALL outstanding debt held by GameStop.
- Divert all remaining net cash (beyond working capital) into buying back shares of stock on the open market.
- Continue paying the current $0.38 quarterly dividend from ongoing free cash flow.
All excess capital should then be used to maintain, renovate, and build upon the core GameStop and ThinkGeek store base.
The purpose of this capital allocation policy is simple. First and foremost, a retail company like GameStop which leases its stores has no business having any debt. GameStop should operate as a debt-free company both now and into the future. The current debt load was incurred to acquire the Spring Mobile business, so it should also be retired upon the sale of the Spring Mobile business.
A debt-free GameStop is a stronger GameStop. Without debt, Gamestop can operate a more sustainable business without fear of forced payments leading to a possible future bankruptcy. A debt-free GameStop will be setup for a sustainable future as the leading video game retailer in uncertain times for the retail industry. I urge the board of directors to eliminate all debt on GameStop’s balance sheet in the short-term and implement a corporate policy of remaining debt-free in the future.
This debt-free policy brings the additional benefit of immediately increasing GameStop’s free cash flow. The elimination of interest payments alone will increase GameStop’s free cash flow by tens of millions of dollars on an annual basis. This will provide additional flexibility in allocating this cash flow for the future development and growth of the business.
Next, I come to the topic of share buybacks. I am sure you are well aware that GameStop’s stock is extremely undervalued by it’s current stock price. Your recent strategic review highlights your understanding that the stock price does not reflect the intrinsic value of GameStop’s business. Therefore, it is imperative that you begin meaningful share buybacks right away in order to build shareholder value.
Share buybacks will increase shareholder value for GameStop in multiple ways. First and foremost, every share bought back reduces the number of shares upon which you would need to pay dividends. At current stock prices below $12, GameStop’s dividend yield exceeds 13%. This means that every dollar you spend on share buybacks will immediately increase the “non-dividend free cash flow” available to the board by 13 cents. This money could then be spent on other valuable corporate uses like improving GameStop’s stores and marketing.
Another way to think of this, is that $100 million in share buybacks will immediately increase GameStop’s free cash flow by $13 million. This immediate 13% return on invested capital is risk-free and sustainable as long as GameStop’s stock remains extremely undervalued. This analysis completely ignores the fact that the true return on invested capital from this activity is much higher, because share buybacks are really reinvestments into GameStop’s entire business. You are actually purchasing the entire free cash flow yield of GameStop which currently exceeds 20%.
Chairman, the board of directors has a fiduciary duty to responsibly allocate shareholder capital. I find it difficult to believe that the board of directors has better alternatives than a risk-free guaranteed 20%+ return on capital from money spent on share buybacks.
I urge you to begin meaningful share buybacks immediately while the market misunderstands the true value of GameStop. Let me quantify what I mean by “meaningful” share buybacks. With GameStop’s net cash position in the hundreds of millions of dollars currently, the board of directors should highly consider spending hundreds of millions of dollars each year on share buybacks until GameStop’s stock price more accurately reflects the intrinsic value in the business.
The board of directors currently has the opportunity to retire 5-10% of GameStop’s shares outstanding every quarter for the foreseeable future, at a low cash cost. It is quite conceivable that properly executed, a share buyback problem could retire 20-50% of GameStop’s shares outstanding in the next two years. If executed as I have outlined, there is no reason that shareholders of GameStop could not earn annualized returns of 20-30% per year without a sale of the company.
This policy would also allow plenty of money to continue investing in the core business of GameStop and Think Geek. By freeing up capital from debt payments and dividend payments (due to massive reduction in shares outstanding), GameStop could maintain it’s current dividend payment while still investing continuously in the future of the business.
Signed,
Trey Henninger
Minority Shareholder and Founder of DIYInvesting.org
