Shares in GameStop (NYSE:GME) zoomed higher during March, and interestingly enough, for reasons more substantive than usual. That this, last month’s GME stock spike was based on more than merely “hope and hype” from the meme stock community.
Instead, the video game retailer’s quarterly results were behind the rally. Coming in well ahead of expectations with earnings, the market was pleasantly surprised, and bid up GME stock accordingly.
With this latest development, many now view this as an opportune time to buy. Since its meme stock glory days, GME has experienced short-lived jolts, only for shares to quickly resume trending lower. Some may argue that, with this rally based on something fundamentals-related, this time, it’s different.
However, if this is your current opinion on the stock, you may want to look closer and reconsider your view. Here’s why.
GME Stock and its Post-Earnings Spike
On Mar. 21, GameStop reported results for its fiscal fourth quarter and the fiscal year ending Jan. 31, 2023. Last quarter, GME reported $2.26 billion in total revenue, a slight year-over-year decline.
But when it came to earnings, the company delivered. Reporting earnings of 16 cents per share, GameStop made a full swing back to profitability, something not expected for many quarters. Not only that, these results handily beat the sell side’s expectations. Consensus estimates going into earnings called for losses of around 18 cents per share.
With this stunning earnings beat, amplified by a still-high level of short interest, it’s unsurprising that GME stock bolted higher the following trading day. On Mar. 22, shares rallied from $17.65 to $27 per share before closing at $23.87.
Another top meme stock, AMC Entertainment (NYSE:AMC) has rallied recently and, in my view, is at risk of pulling back. The entire group of meme stocks could be set for more declines, whether near-term excitement around earnings results or takeover rumors drives near-term outperformance. While GameStop clearly posted a terrific quarter, don’t assume these results mean that the company will continue to crush it operationally.
Dismantling the New Bull Case
Outside the more speculative thesis, built around a possible “mother of all short squeezes” or “MOASS,” scenario playing out, investors bullish on GME stock have also long pointed to the company’s proposed digital transformation as something that could help justify its post-meme stock price, and drive a move to even higher prices.
Now, it appears as if a new bull case is emerging, one based not on GameStop becoming an e-commerce powerhouse but one built around the company turning around its legacy business. As detailed in a recent Wall Street Journal article, GME has put its digital transformation plans on the back burner.
Struggling to succeed with its e-commerce vision, GameStop has shifted its focus towards maximizing the profitability of its brick-and-mortar locations, primarily through aggressive cost-cutting. As a result, management successfully brought the company back to profitability, at least for the preceding quarter.
That’s not to say that GameStop, after reporting upbeat earnings for the preceding quarter, will soon start posting poor results again. The company could continue this momentum for a quarter or two. But investors shouldn’t discount the extent to which another factor (likely temporary) boosted the company’s recent results. I think GameStop’s new focus could also potentially accelerate a move back to pre-meme prices.
Tread Carefully
It may now seem like GameStop’s management has turned this retail dinosaur into a lean, mean, cash-flowing machine. However, a factor outside its control likely helped considerably: strong demand for video game hardware. This trend could weaken in the quarters ahead.
Considering a longer timeframe, the appeal of GME stock dims further. With the company putting its digital transformation on hold, what makes it worth more (on a split-adjusted basis) than before the pandemic, when “meme stock mania” made it one of the most-followed stocks?
GameStop is essentially maximizing profitability while its legacy business remains viable. With digital video games entirely replacing sales of games in physical form, what’s to say the company will not go the way of Blockbuster, if efforts to modernize just won’t take?
Despite a great quarter, the story hasn’t changed with GME stock, so tread carefully.
On the date of publication, Thomas Niel did not hold (either directly or indirectly) any positions in the securities mentioned in this article. The opinions expressed in this article are those of the writer, subject to the InvestorPlace.com Publishing Guidelines.