Did Anyone Notice GameStop Reinvented Itself On The Latest Kitty Call? (Rating Upgrade)

Summary:

• Roaring Kitty’s reappearance with a large GameStop position in May, helped the share quote to rise from $12 to $60+ in quick order.
• GameStop’s management issued $3.05 billion in new shares during May-June, reshaping the balance sheet with $4.2 billion in cash vs. just $1.15 billion in liabilities.
• Positive net income and potentially stronger returns on the reinvestment of its large cash holdings could force Wall Street to rerate shares much higher.
• The reinvented company 12 months from now could be worth materially more than existed in the spring, through timely financial engineering decisions.

I am the knucklehead that called for a GameStop Corp. (NYSE:GME) short squeeze time and again for years, before the massive price increase of late 2020 and early 2021. Unfortunately for my brokerage account, I did not own any shares when the event actually hit shares. Hindsight is always 20/20, I guess. Without doubt, going long a stock sitting at greater than 300% of float “short” can work to your benefit in spectacular fashion.

However, following the Meme stock explosion of +10,000% intraday and +8,000% on a daily closing basis over six months (akin to winning the lottery), I have been telling readers to avoid GameStop with its break-even to money losing operations, minimal net book value as a foundation for price, and way, way too much investor optimism part of the equation.

Well, if you haven’t been paying attention, the investment story has changed dramatically over the past few months. On the latest “Roaring Kitty” (Keith Gill) call for his Meme army to buy shares, GameStop management actually did something smart. They decided to issue new equity shares for $3.05 billion in cash (through two offerings, one during May and another in June), totally reshaping the company’s balance sheet.

Net Income Turning Positive

At the end of its June quarter, the company held $4.2 billion in cash vs. $1.15 billion in total liabilities. The good news is this large cash hoard is earning interest and will help to paper over continued GameStop retail store losses. Even better news for shareholders may come when management (CEO Ryan Cohen) decides to put this extra liquidity to work. For example, if returns on the cash transition from 5% yields to owning a new business unit delivering 10% in earnings and 15% in cash flow on the purchase price, today’s very bearish Wall Street sentiment will be forced into rerating shares much higher.

How bearish have analysts become? Well, the below projections have yet to fully account for the additional $150+ million in pre-tax annual cash-investment yield on the recently raised capital.

In all likelihood, the new GameStop organization as a whole should be nicely profitable going forward. My thinking is this realization by investors and analysts alike could provide one catalyst for rising prices soon.

The Q2 operating statement released last week (September 10th, 2024) highlighted an unexpectedly positive EPS number, which fell on deaf ears focused on the big drop in retail gaming sales at GME stores and online websites. The good news is this total included only several weeks of interest income on the extra cash stash.

Improved Valuation

I am very old-school in my thinking sometimes, with my Wall Street education and experience starting in 1986. Back then, earnings and book values were the two primary financial analysis focal points for many equity investors. Below I have graphed the price to tangible book value reading since late 2017. Over the past seven years only the 2019-20 levels were lower than today’s 1.9x ratio. I would say the equity raise has done wonders for putting in a critical value support for all shareholders, especially if you have waited to buy a stake until now.

Another important stat to ponder is the enterprise valuation (equity + debt – cash holdings) on sales is well within the normal range vs. gaming developers and the electronics retailing world. Remember, GameStop’s 0.97x ratio is down dramatically after the stock issuance effort raised loads of cash. Plus, this surplus liquidity could vastly increase sales through business acquisitions soon.

Final Thoughts

I suppose my point is the logic to be short GameStop no longer exists. The company was already moving toward a breakeven operating profit setup at its flagship retail operations (on store closings and layoffs). Then, it added an enormous backstop of cash to move into other business fields, if management chooses.

Ryan Cohen now has the ability to scoop up any bargains that appear in the retail or ecommerce or gaming industries, at his discretion. One realistic possibility is GameStop morphs into more of a diversified holding company, with investments in outside equities, and perhaps some smaller, wholly owned units. Similar to what Warren Buffett built at Berkshire Hathaway (BRK.A) (BRK.B), today’s GameStop is not the same company as existed in the springtime. And, it may look quite different again in 12-18 months.

I will say, share sell volumes have tailed off significantly since July, while numerous technical momentum indicators have been acting constructively for weeks. Below I have circled in gold the On Balance Volume bottom months ago. Plus, the 14-day Chaikin Money Flow and 13-day Force Index readings have stabilized or moved into positive territory during September. What if the emotional selling by Meme chasers is ending (buying high in May-June and selling low today), and only strong-hand holders of the stock remain?

Who knows? Maybe Roaring Kitty and Mr. Cohen have additional tricks up their sleeves to shake out the final holdouts of short interest. I am not banking on it, but you won’t get paid unless you play (own the stock) under this possible trading scenario.

It’s hard to quantify an upside share price target, as business operations are bound to change in unpredictable ways over the next year. Really, you have to trust Mr. Cohen can charter a brighter future for GameStop shareholders investing in outside businesses soon.

What are the risks? Absent a general stock market crash on Wall Street, making a rotten deal or two with the $4+ billion in cash would keep the stock quote under $20 in 2025.

However, I cannot find a level-headed reason to be bearish with a market capitalization of just $8.5 billion, against $1.15 billion in total liabilities. I believe GME could deliver $200 million to $250 million in free cash flow using its present configuration over the next 12 months (close to $200 million in net pre-tax income from 5% cash yields), with opportunities to improve upon this sum later in 2025. That’s the way I see it, anyway.

I am upgrading my GameStop view from Hold to a speculative Buy, for a 12-month outlook. I do not currently own shares, but am looking to enter a position, especially on price weakness. The 200-day moving average around $19 should provide modest technical support. Prices under $15 are rather improbable with roughly $10 in cash per share.

Thanks for reading. Please consider this article a first step in your due diligence process. Consulting with a registered and experienced investment advisor is recommended before making any trade.

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Analyst’s Disclosure: I/we have no stock, option or similar derivative position in any of the companies mentioned, but may initiate a beneficial Long position through a purchase of the stock, or the purchase of call options or similar derivatives in GME over the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

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