For most gamers, used games aren’t evil. Buying used means access to titles you might not be able to afford new. They also validate the day-one purchase of a new title, with the promise that you can at least get some of your money back on your full-price game investment.

For publishers and developers, however, the secondary market represents a threat to profitability—even viability. Every used game sold (they say) means missed revenue for the people who created the software. These sales cannibalize profits on new titles, and make the prospect of launching a successful AAA title that much smaller.

GameStop, the Grapevine, TX retailer that defined the used game market, stands at the center of the conflict, reaping the rewards of a controversy that it largely created. Examining the company’s bottom line shows just how big the rewards are—and how the firm might even be helping the industry.

Buy/Sell/Profit

The mechanics of the secondary market are simple: A gamer takes her old titles to GameStop and trades them in, with the value for each game determined by title inventory and availability. The gamer can then spend her credit on anything in the store, from new titles, hardware and accessories to the store’s inventory of used hardware and software.

Multiply that by thousands upon thousands of transactions and you have a healthy business model. According to the company’s earnings call on March 22, used software and hardware sales accounted for just over 27% of total sales in 2011, but a whopping 47% of all profit.

Break that out into actual numbers: At the end of its fiscal year 2011, GameStop sold $5.6 billion in new games and hardware, compared to $2.6 billion in used inventory. Note the italics—this is an enormous business. For reference, Electronic Arts, the largest game publisher, sold only $2 billion in games in its previous 12 months. But despite the overwhelming topline impact of the new games—nearly 2:1 over used games—GameStop made only $952 million in profit off new products, versus $1.2 billion in gross profit from used games and accessories.



Source: GameStop

The numbers tell us two things: First, sales of new games—at least through specialty retail stores like GameStop—are pretty impressive. But a closer look at the data also suggests that used game sales may not have as big an impact as many in the industry would have you believe.

Defending The Devil

GameStop’s model has advantages for both consumers and publishers. First-in-line consumers know they can get resale value out of the initial $60 purchase, which GameStop executives argue helps drive new software sales in the first place. Without a built-in out for that new game purchase, there’s a greater chance that alpha consumers would wait well past the first day of release, hoping for a sale.

The more far-reaching advantage is tied to trade-in credit. GameStop said in its March 22 earnings call that it generated $2.6 billion in sales for used games and accessories. Wedbush Securities analyst Michael Pachter estimates the company also paid out around $1 billion in in-store credit for trade-ins. "That billion dollars is used as a currency to buy new games," Pachter said. For perspective, the NPD group estimates total sales in the industry at roughly $16.6 billion, which means GameStop’s $1 billion of trade-in currency equals roughly 6% of total sales. "Most people who trade in used games don’t turn around and buy used games," said Pachter. "They trade in used games so they can buy new games."

It’s not a generalization: GameStop's own data bears this out. Speaking to the Dallas Morning News in August 2009, GameStop CEO Paul Raines provided statistics in defense of the used game market, stating that 70% of trade credits from used games immediately go into sales of new software. On top of that, only 4% of used games sold by the retailer have been released in the past 60 days, thereby having the chance to cannibalize new software sales.

One could argue that the availability of cheaper software actually increases the user base long term. Consumers who normally wouldn’t purchase a game at the full value now have a chance to join a game’s established player base. If you can’t get on the $60-a-pop Mass Effect train for 3 games in a row, maybe you can go the cheap route for the first two, get hooked, and then splurge for the collector’s edition for the finale. Forget for a moment that the person buying said used game isn’t giving money upfront to the publisher—DLC and potential subscription-based content can mean that secondary consumers are possibly extending a franchise lifespan.

In pure numbers, 4% of used game sales cannibalize new game sales and 6% of new game sales are fueled by game trade-ins. "On balance," said Pachter, "it’s pretty friggin’ neutral."

Potential Solutions

Neutral or not, publishers would rather have the dollar today, than the loyal customer tomorrow, so they are taking steps to make new software purchases more attractive. Electronic Arts has spent enormous effort on this, although not everyone likes the solutions it’s come up with.

For its newest titles—SSX and Mass Effect 3—EA employed an “Online Pass” system that locks out content until a code is provided. New purchases have an insert in the case with the required code, but theoretically those trading in SSX at GameStop would have already used the code. In most cases, the Online Pass is tied to multiplayer content, but a few titles have withheld single-player content for those without a code. New codes can be purchased as DLC through both Xbox Live and PSN. This gives EA a potential revenue stream straight from the pocket of the gamer who just grabbed SSX off the used rack, direct from consumer to EA, with no middle man.

Critics of the online pass system say it punishes consumers who opt for the cost savings in used games. They view the additional fee required for all content as a slap in the face, or as potentially limiting the value of a trade-in. Whether or not that’s true is still up in the air—there’s precious little data to show if a successful title like Mass Effect 3 was hurt or helped by online passes.

There are, of course, other solutions. Pachter suggested GameStop hold off on accepting newly-released titles for trade-ins.

"The only part publishers don’t like is used games sold approximate in time to the release of new games," he said. "I think before a publisher would bring pressure to bear on Microsoft or Sony to block used games, they’d probably be smarter to say to GameStop, 'Hey, cut us a break. Don’t accept trade-ins until a game’s been out for three months.'" Pachter envisions GameStop imposing a credit limit for newer titles. "The way to regulate that is to just say, 'We will never pay more than $20 for a trade-in.' It’ll piss you off to sell your $60 game for only $20."

The likelihood that GameStop would bite the hand that feeds it, however, seems slim. Limiting payouts on trade-ins would diminish the amount of "currency" available for new purchases, and no company likes to leave money on the table.

What about locking out used games right in the hardware? Rumors this spring have circulated about a successor to the PlayStation 3, dubbed "Orbis." (Hey, Vita turned out to be real, so who knows.) Under the list of imaginary or leaked specs, news centered on a supposed plan from Sony to “block” used games from operating on the console. "Orbis is apparently locking titles to PSN accounts so as to lock down on the used game market," wrote Ross Miller at The Verge.

Because they're only rumors, take them with a grain of salt. It’s not in Microsoft's or Sony’s best interest to fight against the secondary market. "Each of them sells way less than 10% of the software on their own consoles," said Pachter. In fact, in Microsoft’s case, Pachter speculates that only one percent of revenue for the Xbox division comes from publishing games that could be sold as used. "Why would they ever risk alienating consumers over one percent?"

What’s more likely is that both Microsoft and Sony will push deeper into digital distribution. Sony’s Vita is the model: AAA titles are released both in digital and physical formats, giving consumers a choice while leaving existing distribution channels with retailers open. It’s still too early to know how well that’s working, but it’s safe to say Microsoft and Sony will continue the push when the next console cycle begins.

Who Wins?

No matter what, used games aren’t going away anytime soon. Gamers will continue to trade in old titles, while publishers will continue to develop more reasons to buy new. You’ll think of GameStop as the place next to the Orange Julius in the mall. EA will think of them as the big brother with the baseball bat and a bad attitude.

And either way, GameStop wins.