As the expected launch date for the next version of the Xbox gaming console – the Xbox 720 or the Xbox Next – nears, speculation about the product features is growing. The Xbox Next is expected to be unveiled at the E3 conference and launched in early 2013. Rumors have it now that Microsoft (NASDAQ:MSFT) plans to do away with optical drives completely in the Xbox Next, and deliver games as downloads through Xbox Live. 
These rumors, if true, can have serious implications on GameStop (NYSE:GME), with the most profound impact on the company’s used video games division. Here we try to analyze how a disc-less Xbox 720 can spell doom on GameStop’s most profitable division. GameStop is a leading retailer of new and used video-gaming products competing with the likes of Wal-Mart (NYSE:WMT), Best Buy (NYSE:BBY) and Amazon (NASDAQ:AMZN).
A disc-less XBox 720 can have serious implications on GameStop
With the rapid digitization of video-gaming industry, digital distribution has emerged as a lucrative business for game developers and console manufactures. With its ability to reach the gamers directly, Microsoft is aiming to shunt retailers and increase its margins in the process. This, in turn, can take a dig into GameStop’s new video game software sales. However, we believe a disc-less XBox 360 will pose the biggest threat to GameStop’s used video game division.
Used video-gaming products has always been a source of tussle between developers and retailers, as developers fail to realize any profit whatsoever on used video games sales, thereby benefiting the retailers entirely. The importance of used video game products to GameStop is vast, as the division contributes nearly 50% of the company’s total profits. On the other hand, a disc-less XBox 360 can reap fantastic benefits for Microsoft because, apart from providing direct access to gamers, the strategy will also help the company combat the used video game business.
However, by not including a disc drive in its next console, Microsoft risks alienating a huge chunk of consumers that may not have access to high-speed Internet. We believe this move could hamper its sales in developing markets, which don’t have stable Internet connections. Microsoft may also have to launch a low-cost version of the Xbox Next with an optical drive with fewer features to target this market.
Nonetheless, considering that Microsoft XBox is the most dominant console in the North American gaming market and that the majority of GameStop’s operations are situated in U.S. and Canada, a disc-less Box 720 can put a serious dent in GameStop’s used video gaming business.
We will review our GameStop’s price estimate of $32.51 after assessing the trends in GameStop’s used video gaming division in Q4.Notes: