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GameStop Corp. (GME) & Pandora Media Inc (P): Two Companies With Deeply Flawed Business Models

Pandora Media Inc (NYSE:P)There are plenty of companies that appear to have shaky businesses. But some are worse than others.

Both GameStop Corp. (NYSE:GME) and Pandora Media Inc (NYSE:P) appear to be facing immense challenges. GameStop Corp. (NYSE:GME)’s product, video games, is rapidly becoming digital-only, while Pandora Media Inc (NYSE:P) is facing an onslaught of competitors that offer a far better service than itself.

GameStop is today’s Tower Records

Tower Records was the dominant music retailer for most of the second half of the 20th century. It declared bankruptcy in 2006 after its product — music — went wholly digital.

The same phenomenon is currently taking place with GameStop Corp. (NYSE:GME), the world’s largest retailer of video games. Since 2005, more and more games have been available via direct, digital download.

Not like books

But I should make one point here. The phenomenon taking place in video games is different from the one afflicting the book market. While digital books are infinitely more convenient, there are still plenty of people that prefer to read a traditional, paper book.

In fact, a 2012 study revealed that more than 2/3rds of Americans still prefer paper instead of digital.

Perhaps this is why Barnes & Noble, Inc. (NYSE:BKS)’s founder, Leonard Riggio, has offered to acquire the bookstore portion of the business. While some ambitious money managers may have projected the complete eradication of the physical book business (replaced fully by digital) onto Barnes & Noble, Inc. (NYSE:BKS), Riggio may be smart enough to understand that there will be market for physical books for quite some time.

New consoles, more digital

But unlike books, physical copies of video games are little different than their digital counterparts. In fact, video gamers may only prefer physical copies of their games for one reason: they can be sold at a later date.

Yet, that’s slowly changing. Microsoft Corporation (NASDAQ:MSFT)’s next console, the Xbox One, will still allow users to purchase retail copies of their games, but these copies must be activated and periodically verified online.

The details surrounding Xbox One’s used games policy remain murky, but if Microsoft Corporation (NASDAQ:MSFT) goes ahead with its plan to allow users to trade activation codes online, there will be no more incentive for a user to purchase a retail copy in place of a digital one.

For its part, Sony Corporation (ADR) (NYSE:SNE) has been experimenting with going wholly digital for years. The company released a version of its handheld PSP (called the PSP Go) in 2009 that was not capable of playing physical games, only digital files.

Further, Sony Corporation (ADR) (NYSE:SNE) has embraced the future of cloud gaming, purchasing Gaikai last year for about $400 million. With cloud gaming, users don’t even own a digital file, let alone a physical version of the game — it exists wholly on Sony Corporation (ADR) (NYSE:SNE)’s servers.

The third player in the console trio, Nintendo, has not moved as enthusiastically towards a digital future, but its recent console, the Wii U, has thus far sold poorly, lessening Nintendo’s overall relevancy. Still, Nintendo does offer digital downloads of many of its games.

Like music a decade ago, video games appear destined to go fully digital, perhaps within just the next few years. When that happens, it’s hard to imagine GameStop Corp. (NYSE:GME)’s core business surviving.

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