Walton's World

Walton's World
A Marginal Business

Max Steele | 3 Jan 2006 11:00
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The used game business works like this: A gamer shows up at GameStop with a few games he's tired of and wants to trade in. GameStop offers him a lowball price - much lower than what he'd get if he sold his games on eBay, just high enough to keep him in the store - and since he's already there and wants the cash, he accepts it. More than likely, since he's a gamer in a game store with cash in hand, he spends the cash on something else, maybe something secondhand that he can pick up for $20. Meanwhile, GameStop marks up and sells the used games it just bought for three times what it paid for them.

GameStop executives describe this as a "margin growth" business - because they make a much higher profit margin on the sale of every used game than they do on the comparable sale of a new game. And in the highly competitive retail trade, margins matter. How much?

"Used games are keeping the entire ship afloat," a vice-president of marketing for Electronics Boutique tells me. "EB and GameStop make basically no money from new product."

No money from new product? But everybody knows the retailers are the real profiteers of the interactive entertainment industry, brutally extracting marketing development funds and ruthlessly returning product in the name of the all-mighty dollar.

Right?

The Savagery of Sellthrough
Throughout most of the entertainment and media industry, when publishers want to make sure first-run entertainment sells in droves to the public, they charge what's called "sellthrough prices" - and for virtually every form of media, including books, movies and music, that price is between $15 and $25. You can get the brand-new Feast for Crows hardcover for $16.80, the Star Wars: Revenge of the Sith DVD for $17.98, and Madonna's Confessions on a Dance Floor for $18.98.

But you have to pay $49.99 for Perfect Dark Zero, or any other new release videogame. In comparison to its closest substitutes from other industries, videogaming isn't priced to sell through.

And yet, selling through is the one thing a videogame must do. Videogames suffer from the shortest shelf life of any media. You can walk into a record store and buy CDs from the '60s, '70s, '80s and today. You can visit Barnes & Noble and pick up books written in the Renaissance. You can buy movies made in the black and white era. But you would be hard pressed to find a GameStop sellingmore than a handful of games older than a couple years, and the vast majority of shelf space will be for titles released in the last six months.

Facing this short shelf life, game publishers have strategically adopted a tiered pricing model. They start the games off at the highest price point they can - right now that's $49.99 - and they extract as much money as possible from the avid, got-to-have-it-now consumer. They then drop the price to hit the next tier of consumers and keep moving units.

The tiered pricing model works well for the publishers, and if they can convince enough consumers to buy at the $49.99, it works really well. Think Halo 2. It's great for big box retailers like Wal-Mart, too. Wal-Mart only takes a title that is a proven seller, and any title that doesn't sell gets dropped instantly. Wal-Mart doesn't care if it has the biggest inventory of games, or covers every genre of game. It just sells the big hits.

For specialty retailers like GameStop, the tiered pricing model sucks. GameStop can't compete on price with the likes of Wal-Mart, so to differentiate itself, GameStop has totake risks on unproven new product, and keep a wider inventory of older product. But unlike music and book sellers like B&N, GameStop has no evergreen products that it can reliably keep on the shelves. So, its inventory management is a constant struggle, with price points continuously adjusted, and product constantly moved around the store depending on its age. GameStop ultimately suffers because its shelf space is devoted to games that are, by definition, less popular and lower priced than what Wal-Mart stocks.

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