Game Over for GameStop and Video Game Retailers?

Before it even launched, Diablo III had sold 2 million copies, making it the biggest game release of the year by far. The same week, though, video game retailer GameStop announced a worse-than-expected quarter of falling revenues led by plummeting in-store sales. Together, those two facts signal a massive re-alignment of how games are sold.

It turns out that a huge proportion of those 2 million Diablo III presales were direct-to-consumer downloads that bypassed retailers. As digital downloads take over the game market, where does that leave storefront game retailers like GameStop?

A big chunk of those direct downloads came from Blizzard’s Annual Pass program, designed to shore up flagging WoW subscriptions. Others were direct sales from blizzard.com. Every one of Blizzard’s direct sales was a win for gamers who got to skip the midnight line-up, and a slap in the face to video game retailers.

Let’s be clear. This is not a Blizzard-versus-GameStop story. It’s an industry-wide seachange. M2 Research’s Billy Pidgeon explains: “Retail outlets are seeing sales downturns along with some publishers as business models and distribution methods change in the industry. Fewer units of packaged games are selling in brick and mortar outlets, and this has hurt retailers such as Toys R Us that have seen strong performance from the category in the past.”

GameStop’s Q1 2012 results back him up. While the company’s digital sales increased 23%, they still added up to a drop in the bucket, while a 12.5% decrease in store sales dragged down total company revenues by an almost identical 12.3%.

Digital downloads now dominate the PC gaming business, whether direct-from-publishers, or through third-party distributors like Steam. With current consoles connected to the Web and an even more net-focused breed of consoles on the horizon, we can expect direct downloads to crush physical sales in the future.

Taking it to the streets

Gamestop declined to answer questions for this story, so ReadWriteWeb took our quest for answers to the street, dropping in on a Southern California GameStop store the day before the Diablo launch.

The clerk, who chose to remain anonymous, admitted that digital downloads had hurt business, but he felt Gamestop had moved on. “PC gaming stores don’t really exist anymore. We sell some special editions and first-day releases, and some people still buy on impulse, but serious PC gamers don’t go out [to the store] anymore. Most of our business here is new and used [console] systems and games, and we get a lot of repeat customers.”

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Analyst Pidgeon points out that the pre-owned market remains “very profitable” for GameStop, and should continue to be as long as vendors continue to use disk-based software that can be stocked on store shelves. But as consoles move toward direct digital distribution that business is doomed to decline as well. Will pre-paid cards and pre-owned hardware be enough to keep the doors open?

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Pidgeon thinks the industry won’t let things get that bad, at least for the big chains that sell video games along with other products. “It’s likely that big box and general merchandise retailers like Best Buy, Target and Wal-Mart will reduce floor space allotted for video game hardware and software.

“Still, most publishers aren’t eager to see retail outlets fade away and continue to consider retail a valuable partner. If GameStop should fail as a business, publishers and console vendors would lose an important connection to gamer street traffic and potential hands on demos that are particularly important in marketing new hardware.”

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Can this business be saved?

But if game publishers are serious about partnering with retail outlets, they’re doing a sloppy job so far.

The GameStop we visited sold digital download codes that would allow purchasers to skip the DVD installer and download the game directly from Blizzard. The catch? The store wasn’t going to receive the codes until the next morning, 9 hours after the game would be available direct from the publisher. So players who want to support their local businesses are giving digital downloaders a big head-start.

There are plenty of existing business models from which publishers could draw inspiration. Many industries use some variation of an affiliate model, either paying per customer acquisition or sharing a percentage of one-time or lifetime sales. With so much revenue moving toward subscriptions or in-game purchases, a lifetime-value affiliate model could provide long-term incentives for retailers to leverage their personal touch and still make money. This could also allow hardware vendors to compensate retailers for used console sales.

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Short-term, there are also some quick and easy fixes publishers could make right now. How about a GameStop-only collector’s edition of Halo 5, and another for Toys R Us, with different in-game goodies? This model works well with card-trading games like Pokemon, Yu-Gi-Oh! and Magic The Gathering where millions of gamers buy sets of nearly identical cards in hopes of finding “rares.” These sorts of packages have very low incremental costs, but pull customers into stores and generate more revenue for everyone.

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