With £8,000, I’d buy 79 Games Workshop shares to aim for £1,100 in passive income

Shares in companies that distribute their earnings to investors make great passive income investments. And sometimes they’re worth a P/E ratio of 23.

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My retirement is some way off, but I’m looking for shares that can provide me with extra income when the time comes. And I like the look of Games Workshop (LSE:GAW).

At first sight, the stock’s a bit of an unusual candidate – it’s up 114% over the last five years and trades at a price-to-earnings (P/E) ratio of 23. But there’s more to it than meets the eye.

Buy low?

Sometimes, investing is as simple as buying low and selling high (or maybe not selling at all, but definitely buying low.) It’s hard to see how Games Workshop fits this model though. 

This is a fair point, but buying low isn’t just about picking up shares when the price is lower than it used to be. It’s about buying when the stock’s trading for less than it’s worth

When a stock’s low, the chance of it being undervalued is greater. But it isn’t guaranteed – shares in a bad enough business can still be a terrible investment, even if they’re down 90%. 

Likewise, if a business is good enough, its shares can still be a bargain even if the price has been going strong for a number of years. I think this is the case with Games Workshop. 

Do the numbers add up?

A P/E ratio of 23 implies an earnings yield of 4.34%, but shares in Games Workshop come with a 4.2% dividend yield. On the face of it, that’s surprising. 

It means the company’s sending out all of its earnings as dividends. This can be dangerous if it isn’t holding enough back to meet the ongoing needs of the business.

Games Workshop doesn’t have many ongoing needs though. It owns the rights to its Warhammer, meaning it doesn’t have to keep spending to stay ahead of the competition.

That allows it to distribute virtually all of the cash it generates to shareholders. So a high P/E ratio doesn’t automatically mean a low investment return. 

Compounding to £1,000

Investing £8,000 in Games Workshop shares today could earn me £336 in dividends in the first year. But reinvesting those could help boost my income over time. 

If I manage to keep reinvesting at 4.2% a year, I could turn my initial stake into something distributing £1,100 a year after 30 years. That’s roughly when I’d be looking to retire.

Investing brings risk and Games Workshop’s no exception. The company currently earns around 45% of its revenues from the US, where consumer spending’s currently weak.

That’s a genuine concern investors considering buying the stock should pay attention to. Even the best companies go through ups and downs over time.

What matters with investing

Over the long term, I think the best results come from investing intelligently. That means buying shares in quality companies when they trade at decent prices.

Games Workshop shares look like a good candidate to me. Shareholders might be in for a difficult few months, but I think this is a stock I’ll be glad to have bought 30 years from now.

Should you invest, the value of your investment may rise or fall and your capital is at risk. Before investing, your individual circumstances should be assessed. Consider taking independent financial advice.

Stephen Wright has positions in Games Workshop Group Plc. The Motley Fool UK has recommended Games Workshop Group Plc. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.

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